Alphabet Inc (GOOG, GOOGL) stock fell hard off its earnings spike — a day after earnings, GOOGL was over $800 per share; four days later it struggled to hold $680. Some of the selling was warranted, as equity markets in general were correcting.
I estimate that about half of that drop was due to its association with the so-called FANG trade popularized by CNBC. (GOOGL is the “G” in the acronym FANG.) I can make the same argument for the “F” in FANG — Facebook (FB).
Wall Street sold GOOGL stock as aggressively as the frothier “A” and “N” in FANG: Amazon (
AMZN) and Netflix (NFLX), respectively. But GOOGL sellers overshot to the downside, so I cautiously traded to the long side and profited.
Now I look to re-engage long from here.
Fundamentally, Google stock is healthy and has excellent prospects for the mid- and long term. There are no apparent issues specific to GOOGL, so as long as the markets don’t crash, the downside in GOOGL should be limited.
Click to Enlarge Technically, GOOGL recently defended a pivot area. So for now, I can count on it as forward support with the current known variables.
Although I believe downside is limited, I’m not so sure that it has a long way to run. So for this trade, I choose to sell puts and generate an attractive yield instead of buying stock or calls.
There are several versions of this:
For one, I sell the GOOGL Jan 2017 $570 put and collect $23 credit per contract. This has an 84% theoretical chance of success. The absolute yield, if successful, is 4%. The yield on current margin requirement is over 20%. Losses will come if GOOGL stock falls below $547 per share.
I can modify this strategy by moving the strike price up for more premium or down for less, which in turn moves the risk of loss accordingly. I only sell naked puts if I am willing to own GOOGL at my breakeven point of $547 per share — that’s 25% lower than current price.
In this case I am willing to take periods of paper losses for the overall outcome’s success. I could temporarily buy cheap shorter-dated put protection during uncertain periods like earnings season. I can close this trade at any time by buying back the put sold.
Selling naked puts will require margin. To limit that, I can instead sell the GOOGL Jan 2017 $570/$560 credit put spread with the same chance of success. For that I collect $1.95 per contract with potential yield of 24% on money risked.
While the current risks that caused the 2016 correction still exist, for now we’ve established bounce levels. This gives me faith that cautious longs will prove profitable.
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.
