JPMorgan Chase & Co. (NYSE:JPM) looks like a runaway train, but it’s far from derailing. It’s still a value from which I can profit.
Investors on Wall Street rejoiced yesterday and pushed banks stocks up a bunch. For example, JPM stock gained 3.5% on the day, which is very unusual without any specific headline. But it wasn’t the only one — the Financial Select Sector SPDR Fund (NYSEARCA:XLF) was up 2.6% and Bank of America Corp (NYSE:BAC) was also up 4%.
So is it too late to chase and go long JPMorgan Chase stock? No. I will go long the stock but without much of the usual hopium that requires higher prices to profit. My trade will be profitable even if JPM stock falls another 20%.
JPM is the creme of the crop of financial institutions. They rarely give traders specific cause to sell the stock. They also have a fortress balance sheet. Furthermore, after the most recent stress tests, management vowed to financial engineer the stock with buybacks and dividends. So it’s no wonder that the stock is up 28% in one year.
Even at these levels JPM is not expensive. It still only trades at a price-to-earnings ratio under 15x. This is cheap by any standard. Furthermore, it only trades at 1.5 times book value. So I am very confident that it won’t be a mistake if I have to own shares at a discount from here.
Although the Donald Trump administration has had its challenges, they stay committed to removing red tape for banks. So these favorable operating conditions are likely to persist. In addition, we are still in a cycle of rate tightening which in theory should also benefit JPM bottom line.
Technically, this spike on Tuesday helped avert a retest of an important ascending trend line, which could have threatened JPMorgan’s trajectory. Now it’s in the clear from it for a while. Moreover, it speaks to the difficult of shorting these bank stocks. The fewer traders that are willing to short the easier the path upwards.
Click to Enlarge Even though I make a solid case for its bargain price, I will not buy the JPM shares out right and hope for a rally. Equity markets are at all time highs and we could have a correction at any time. JPMorgan stock is a three digit stock and it will correct too.
So I’d rather use options instead, where I know I can build a moat around my trade just in case we get extraneous reasons that cause JPM to fall. Besides I’d much rather create income with no out of pocket expense.
This cautious approach is also important because JPM stock is now approaching prior failure levels. Sure they offer a breakout opportunity but it could be that it might take a few steps back before the bulls can finally prevail. I’d like to watch the fight from afar via sold puts.
I get no help from looking at what Wall Street experts think. They are in a holding pattern and the stock is trading in the middle of their price ranges. So I will sell my risk against value and the recent proven support levels.
JPM Stock Trade Idea
The Trade: Sell the JPM Jun 2018 $80 put. This is a bullish trade for which I collect 90 cents to open. I have a 90% certitude that I will retain maximum gains. But if price falls below my strike then I own shares. I would then need to manage off my breakeven point of $79.10.
Selling naked puts carries big risk especially for three digit stock like JPM. For those who want to mitigate it, they can sell a spread instead.
The Alternate Trade: Sell the JPM Jun 2018 $$85/$82.50 credit put spread where I have a slightly smaller chance of winning but with much smaller risk too. Yet the spread would yield 13% if successful.
Ultimately, regardless of how careful I am, investing in stocks is fraught with danger, so I never risk more than I am willing to lose
Get my newsletter for free here. Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him as @racernic on twitter and stocktwits.