Using a simple stock substitution strategy, a modest move higher in this cash-rich tech stock by April will trigger a 50% return. See exactly how to set up this easy and safe trade.
Technology has led the way in 2016 with the NDX Nasdaq 100 posting record highs on October 10th. Fighting the forces of Facebook, Apple and others has been futile for the short sellers.
Somewhat forgotten icon, Microsoft, has had a nearly 80,000% return since the 1986 IPO. A handy dandy Excel table helps Microsoft millionaires keep track of this amazing trend…
Microsoft surprised last quarter with an earnings breakout boost. New numbers are out October 20th as the stock has stalled in sideways trade.
Risk to reward favors the Bulls here with a three month $56 to $58 consolidation in a strong uptrend. The coiling of the spring targets $60 as the first objective on the upside and new record highs when sprung.
MSFT had been tracking between $48 and $56 for eight months prior to the July jump. The $8 range breakout measured move target is $64 which stands a healthy 12% above the current stock price.
The old resistance at $56 is now the support level to watch on a weekly basis.
FOLLOW THE MONEY…Unusual option activity is watched as “smart money” tips off investors about stock opinions of institutions or hedge funds.
Last Thursday a SIZE option order in MSFT saw 45,000 contracts of the November $60 calls trade with mostly buys around 50 cents. That out of the money strike is above the all-time highs with little more than a month to get there.
The combination of channel consolidation in an upward trend, unusual call option activity, and potential earnings catalyst set up for bullish bias in Microsoft.
Instead of buying long shares, a stock substitution strategy limits risk to the premium paid with unlimited upside profit potential. Less capital is required and the risk is less in dollar terms than buying shares outright.
The Options Way: Stock Substitution Strategy with limited risk.
There are two rules options traders need to follow to be successful.
Rule One: Choose an option with 70%-plus probability. The Delta is a measurement of how well the option reacts to movement in the underlying security. It is important to buy options that can give you a payoff from only a modest price move.
Any trade has a fifty/fifty chance of success. Buying ITM options increases that probability. The delta also approximates the odds that the option will be In The Money at expiration.
Buying better options is more expensive, but they are worth it — the chances of success are mathematically superior to buying cheap, long shot Out Of The Money lottery tickets that rarely ever pay off.
With MSFT trading at $57.25, an In The Money $50.00 strike option currently has $7.25 in real or intrinsic value. The remainder of any premium is the time premium of the option.
Rule Two: Buy more time until expiration than you may need. Time is an investor’s greatest asset when you have completely limited the exposure risks.
Traders often buy too little time for the trade to develop. Nothing is more frustrating than being right but only after the option has expired prematurely to the market move.
Trade Setup: I recommend the April MSFT $50.00 Call at $8.50 or less. A loss of half of the option premium would trigger an exit.
This option strike gives you the right to buy the stock with absolutely limited risk at $50 per share, a price not seen since the end of June. The option Delta is 70%+ so this position will act much like long shares at a sharply lower investment cost.
This April option has six months for a bullish development to occur.
The maximum loss if the option expires worthless is limited to the $850 or less paid per option contract. A stop loss is placed at half of the option premium paid to lessen dollar exposure to $425.
The upside, on the other hand, is unlimited.
The MSFT option trade break-even is $58.50 at expiration ($50.00 strike plus $8.50 or less option premium) about $1 higher.
If shares rally to the $64 measured move target, the option investment would gain 50%+ to $14.
Options trades like the one above and the kind I specialize in are a great way to boost the returns in your brokerage account when you don’t want to tie up a lot of cash and want to minimize downside risk. Another way to pull in consistent cash is by putting your money in high probability trades based on dividend stocks.
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