Buyers swarmed Alibaba (NYSE:BABA) last week after the Chinese internet giant announced its cloud computing business would make a profit this year. On Sept. 30, BABA stock shot 6.5% higher. Nearly 25 million shares traded, marking the most-active session of the month.
The price action we’ve since seen has been extremely constructive, and I’m betting more highs are in the offing. After looking at the recent improvement in Chinese equities, we’ll take a deeper dive into BABA’s stock chart and identify which options strategy is best poised to capitalize on the next leg of its uptrend.
FXI is Messy, But Improving
For a big picture view of China, we’re using the iShares China Large-Cap ETF (NYSEARCA:FXI). It averages nearly 20 million shares in trading volume a day, making it the Street’s most liquid vehicle for pure exposure to the country. The heavy activity spills into the options market, offering tight bid-ask spreads and plenty of open interest.
Despite an impressive comeback from the March depths, FXI is still down 2.5% on the year. We’ve seen a great deal of backing-and-filling in recent months. The lack of traction has created a messy trading range. Moving averages have flattened, and momentum has been lost. However, bulls are looking upon the past two weeks with hope. We’ve rallied hard off the lows and are on the brink of clearing the 50-day moving average.
The improving technicals should aid BABA stock moving forward. Keep an eye on the pivot high near $43.40. Breaking above it will be the tell that FXI is returning to the high side of its range.
BABA Stock
Alibaba finds itself in an impressive weekly uptrend. Its 20-day, 50-day and 200-week moving averages are all marching higher. Continuation patterns have cropped up multiple times this year, and each has been virtually picture perfect. The breakout following March’s nastiness carried prices to record highs on huge volume. Then, we saw a bull pennant form that gave way to another breakout that pushed prices $1 shy of $300. Volume, once again, swelled during the advance.
The pullback that formed after that was shallow, short-lived, and absent of any distribution. Last week buyers returned, and we now find ourselves with back-to-back weekly rallies on increasing volume. I’ll hasten to add that momentum has been rising over the past six months as well.
It’s impossible to translate the description above as anything but a healthy uptrend.
Turning to the daily reveals just how constructive the past six month’s ascent has been. During the entire time, the 50- and 20-day moving averages have acted as gathering grounds for dip buyers. The most recent retreat stopped directly at the 50-day, for example. Over the past six weeks, a classic cup-and-handle pattern has formed.
Participation patterns have been beautiful throughout. The initial burst in August saw heavy accumulation, as did the most recent ramp back to the cup’s brim. By comparison, the pullback or carving out of the cup saw only light volume. It’s the type of signals that reveals the Street is backing bulls here 100%.
Bet with Bull Calls
The looming breakout over $300 should propel BABA stock to $320 and beyond. Because of the higher price tag of the stock and elevated implied volatility, I prefer bull call spreads over long calls.
The Trade: Buy the Nov $300/$320 bull call for $7.65.
If prices sit below $300 at expiration, the spread will expire worthless, and you’ll lose the max risk of $7.65. The max reward is $12.35 and is yours to keep if prices push past $320 by expiration.
To increase your odds of success, I suggest exiting when Alibaba touches $320.
On the date of publication, Tyler Craig held a long position in BABA.
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