Like falling knives, rising stars are also tricky to trade. It’s hard to commit new money on super-spikes. Netflix, Inc. (NASDAQ:NFLX) is a momentum stock that definitely earned the shooting star label. Its stock has defied gravity since its inception. NFLX critics have had issues with valuation while they have been missing the trade for years.
I too am suspect of the sustainability its financial model as it exists now. But that has not stopped me from profiting from bullish trades all along. I do this without chasing higher prices. Instead, I bet on support, especially on dips.
Today, NFLX stock is flying high, so it will be a little trickier to set up a bullish trade after a massive 10% earnings Spike.
Technically, NFLX is a momentum stock and it moves fast in either direction, so what I may see as support in today’s market may become a trap door if the general stock market corrects. So I only do this if I am ready to own the shares at a discount. Therefore, the mid-term fundamentals matter.
To that argument, Netflix stock is definitely not cheap with a triple digit price-to-earnings ratio. But it has rewarded its stock owners well. In the past 12 months, it is up twice as much as the PowerShares QQQ Trust, Series 1 (ETF) (NASDAQ:QQQ) and 15% more than say Apple Inc. (NASDAQ:AAPL).
The bullish thesis for NFLX now is not value but growth, more specifically overseas growth. Last night, management over-delivered on that front with astonishing new signup metrics. Consequently, the thesis that bulls had on global expansion is alive and well. Costs are out of control, but for as long as money is cheap, this is far from being an issue. Shorting it for the near-term remains a difficult task.
How to Trade NFLX Stock
This is a situation similar to Tesla Inc (NASDAQ:TSLA). The bullish thesis for both companies are muddled and long-term. So bears cannot refute them for years from now and therein lies my opportunity.
In this uber-bullish stock market, I am brave enough to bet on the short-term support. I will use options to generate income from what others continue to fear in Netflix stock.
Analysts on Wall Street are likely going to reset their price targets as NFLX stock is now trading too close to its upper ranges of their targets. If and when that happens, it could incite another leg higher or at least lend support to current levels.
The Bet: Sell the NFLX Apr $190 put and collect $1.50-per-contract to open. I have an 85% theoretical certainty that I retain maximum gains. Otherwise, I will accumulate losses below $188.5.
Selling naked puts carries big risk, especially for a stock as frothy as NFLX, especially at all-time highs. For those who want to mitigate it, they can sell a spread instead.
The Alternate Bet: Sell the NFLX Apr $195/$190 credit put spread, where risk is limited. But if the spread wins would deliver 15% in yield.
It is important to note that today’s trade doesn’t need a rally to profit. I simply need support for NFLX stock to hold for the near term. Time will then do the heavy lifting and premiums will expire in my favor. But just in case, I have to be ready to own the shares at that level.
Ultimately, 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.
