West Texas Intermediate (WTI) crude futures dropped by 25% yesterday, and yet the market was buoyant, with the S&P 500 pushing to resistance at 2,880. Traders seem to be anchored on news that the lockdowns in places like Italy and New York may end soon.
Financial stocks also all got a big boost from the Deutsche Bank (NYSE:DB) earnings report Sunday night. DB’s earnings showed the German financial giant turned a surprising profit last quarter.
However, the news wasn’t all good as DB’s earnings included big warnings about bad loans. We also expect the worsening employment picture to keep a lid on any long-term bullish trends.
Still, with the market heading higher, this is a good time to increase exposure to the stocks that have been most defensive during the outbreak, like Microsoft (NASDAQ:MSFT).
Looking Beyond Earnings
MSFT reports earnings on Wednesday, which means we could see a surprising move up or down. We expect the company to beat expectations, pushing the stock higher, but there is still some risk to the downside that we should recognize.
We’re bullish because we expect investors to focus on MSFT’s ever-expanding cloud service, Azure. With people working from home, more companies have adopted cloud-based services, and MSFT’s recent partnership with Adaptive Biotechnologies Corporation (NASDAQ:ADPT) also means it has joined the effort to stop the spread of COVID-19.
Azure is bigger than ever.
We recommend traders sell a put that expires sometime in May. Puts that expire after earnings will have an inflated premium, offering you more income upfront.
This is a riskier trade than we would normally target, but we think the risk/reward profile justifies a more aggressive stance. And because you collect more premium by selling a put that expires after earnings, you’ll have a slightly larger hedge against a potential drop in MSFT.
The Same Bullish Story
“Old resistance becomes new support.” We say that so often because it is usually true. MSFT has broken above a key resistance level — around $172.50 — from early March, and we think it could act as support going forward.
In the chart below, you can see that MSFT dropped below that support level in April, but it didn’t waste any time recovering. We think $172.50 could serve as support if the stock does pull back after earnings.
Daily Chart of Microsoft Corporation (MSFT) — Chart Source: TradingView
Remember, if you are holding this position at your chosen expiration date and MSFT is trading below your strike price, you will be put 100 shares of MSFT for every contract you sold. You’ll still get to keep all the premium you collected by selling the options though, so it’s like getting a small discount on your shares.
If MSFT rises dramatically, you may be able to close your puts early, locking in your profits and lowering your risk. Then you can sell another put write on MSFT for even more income.
InvestorPlace advisers John Jagerson and S. Wade Hansen, both Chartered Market Technician (CMT) designees, are co-founders of LearningMarkets.com, as well as the co-editors of Strategic Trader.