Bank of America (NYSE:BAC) earnings are in the books and as is often the case, its share price reacted with indifference. Today we’ll survey the price levels and trends that matter moving forward, ending with an options trade hand-crafted to profit in this environment.
I’m turning my eye toward financial stocks this week for two reasons. First, unlike the majority of companies, banks are one of the few industries that have already reported earnings. With the uncertainty of this quarterly ritual now in the rear-view mirror, we can trade companies like Bank of America, JPMorgan Chase (NYSE:JPM) and Wells Fargo (NYSE:WFC) without fear of a nasty surprise if earnings fall short.
Second, I’ve surveyed the charts of every major sector, and the Financial Select Sector SPDR Fund (NYSEARCA:XLF) offers the cleanest setup this week. The past month of consolidation created a clear base that is on the cusp of breaking out. And that makes it an easy, low-risk trade opportunity. By contrast, almost every other sector is overbought and at risk of pausing or pulling back.
Bank of America Stock Charts
Last year’s fourth-quarter rally ended an 18-month consolidation, sending Bank of America stock to fresh 11-year highs. The months of chop should provide ample support during future pullbacks toward $32. All major moving averages are pushing higher in support of the uptrend and should also provide potential buying areas into weakness. Finally, volume patterns have been steady over the past three months, with accumulation and distribution weekly candles absent.
The daily view shows the uptrend’s strength waning in recent weeks. Earnings didn’t help bulls any, either. The mild down gap pushed BAC stock below the 20-day moving average and it has yet to climb back above it. I peg resistance at $35.70 and support near $34.34. This morning’s weak open will probe support, revealing if buyers are willing to defend the faltering trend.
My Recommended Options Trade
On the implied volatility front, traders have thoroughly squeezed option premiums, and they now sit near their lowest prices of the past year. The implied volatility rank is 6%. Since short premium strategies like naked puts and covered calls offer paltry payouts, I suggest calendars as an alternative. You could bottom fish this dip and enter today, or wait for a break above the 20-day moving average as confirmation that the short-term trend is turning higher.
Here’s the trade structure:
Buy the April $32 call while selling the Feb $35 call for around $2.50. This is known as a bull call diagonal spread or a poor boy’s covered call. The risk is limited to the initial cost of $2.50 and will be forfeited if BAC falls dramatically from here. To reduce the loss, however, you could exit if BAC stock falls below the $32.50 support zone.
The estimated reward is $50 and will be captured if BAC sits anywhere north of $50 near the February expiration. A bump in implied volatility over the month could also boost the profit.
As of this writing, Tyler Craig didn’t hold positions in any of the aforementioned securities. For a free trial to the best trading community on the planet and Tyler’s current home, click here!