I hate to burst Cisco (NASDAQ:CSCO) bulls’ bubble, but on and off the price chart, CSCO stock is looking like risky business. And for today’s like-minded bears, the way to position for lower prices is by buying a well-placed butterfly spread combination in lieu of shorting shares. Let me explain.
If lackluster earnings a while back weren’t concerning enough for CSCO stock bulls, now there’s the market’s 800 lb. gorilla Amazon.com (NASDAQ:AMZN) to worry about. Late last week it was announced the sprawling tech Goliath would be selling its own network switching devices through its Amazon Web Services unit and, potentially, cutting in on Cisco’s business.
Some analysts, like Bank of America Merrill Lynch, are downplaying the bearish consequences of Amazon. But for a company and stock that has been struggling to recapture growth off and on the price chart, the market has spoken … and given bears the upper hand in CSCO stock.
CSCO Stock Chart
The situation has gone from somewhat concerning to plain old bad in CSCO stock lately. But there’s no need to worry … well, if you’re a Cisco bear at least. Shares look poised to move lower from here.
Following earnings last week, Cisco formed a bearish engulfing pattern that confirmed an existing flag. Some traders might argue the flag is part of a slightly unorthodox right shoulder or a return move to the neckline. Some may even say they see a lower high set-up. Regardless of what you call the price action, conditions look supportive for bears in CSCO stock as each of those patterns have developed against the key 62% retracement level dating back to Cisco’s go-go days.
CSCO Stock (Bear-to-Bull) Options Play
After looking at Cisco’s options and with shares at $42.34, the Sep $41/$38/$35 put butterfly for 42 cents is favored. The idea isn’t entirely new as a month ago a similar combination was offered to readers. That spread is also up 44% as of today’s writing.
With today’s butterfly, the trader’s short exposure is limited to 1% of CSCO stock while allowing for an expiration profit range between $35.42 to $40.58. That’s nice. The max payout of $2.58 is achieved if CSCO stock lands on $38 at expiration. That’s even sweeter of course, but requires more than a good deal of luck as the timing of the move would have to be 100% aligned in a typically imperfect world.
The risk with using this strategy to capture profits during the course of a bearish move are two-fold. First, butterflies are typically much slower to increase in price than other spreads such as a bear put vertical.
The other possible dilemma is if CSCO stock overshoots the $35 strike wing. Bottom line, at expiration this trader will forfeit the small debit if that occurs. Nevertheless, earnings volatility is out of the way. So if, like me, you’re more likely to see Cisco in a favorable light for the right price, this compromise looks less difficult to swallow and more like something to bullishly embrace.
Investment accounts under Christopher Tyler’s management do not currently own positions in any securities mentioned in this article. The information offered is based upon Christopher Tyler’s observations and strictly intended for educational purposes only; the use of which is the responsibility of the individual. For additional market insights and related musings, follow Chris on Twitter @Options_CAT and StockTwits.
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