On a follow up from yesterday. We asked readers to give us their thesis on BAC and we would suggest a couple possibilities based off of order flow. A lot of the ideas were pretty basic or didn't have a volatility or time component so we might follow up on those at a latter date.
Matt from Chicago emailed: "I want to be long BAC around $10 but if it has bottomed already I don't want to miss out. I think the stock goes back and fills the open gap at 12.8 and maybe higher by the end of this year or early next year. I think volatility goes down."
Thanks for e-mailing us Matt here is what we're thinking based on what you have told us:
Our first focus was to be opportunistic in taking advantage of the recently higher implied volatility in the puts by selling them to initiate our trade. For taking on the risk of being short puts, we end up taking in a credit, and we are using that credit to finance the purchase of a cheap call position that gives us plenty of upside to cash in if BAC makes a move to the upside. In order to manage the risk of being short puts, we bought some cheaper puts in case we are wrong about our bullish thesis. This whole package serves a prudent purpose - spend a little to make a lot, while managing the risk of being wrong. This is how the pro's do it. So what are we waiting for?! Let's break down the trade!
Sell the FEB put vertical to finance long FEB call fly:
Long (2) Feb 9 Put @ .50 for 1.00
Short (2) Feb 10 Puts @ .82 for 1.64
2 Short Put verticals for a credit of .64
Long (1) Feb 11 call @ 1.09
Short (2) Feb 13 calls @ .42 for .84
Long (1) Feb 15 call @ .16
Long Call Fly debit of .41
Total Position: credit of .23
Max profit is at 13 or 2.23
Max loss is at 9 or .74
Risk .74 to make 2.23
Trade effectively gets long 200 shares of BAC @ 9.67 per spread (due to the short puts)
Unwind the call fly at 13 even if its before expiration
Adjustments: If the put spread moves in your favor by .41 you can cover it and have the fly for free.
Its very important to understand that the call fly is just a bull call vertical and bear call vertical combined so if you want to adjust you can either remove or add a vertical to capture a short term move with a quick scalp.
Here is an alternative:
Trade Idea 2:
Sell the $11/$10 January 2012 put spread to buy the $12.50/$14 January 2012 bull vertical call spread for a credit. The four legs are:
Short (1) $11 January 2012 put at $1.18
Long (1) $10 January 2012 put at $0.75
Long (1) $12.50 January 2012 call at $0.47
Short (1) $14 January 2012 call at $0.20
The spread is executed for a $0.16 credit. The bullish trade has limited risk and limited profit potential. The max risk is $84 and the max gain is $166. Using the January options gives the trader 7 months of time to adjust the position. The loss is limited at an underlying stock price of $10 or below by January 2012 expiration. The profit potential is limited at an underlying stock price of $14 and higher.
We hope that helps. As always if you have any questions please don't hesitate to ask.
No position at this time. Position declarations are believed to be accurate at time of writing but may change at any time and without notice.