Tesla (TSLA) is set to report fourth-quarter earnings Wednesday after the close. Options data shows Tesla stock has an expected move of around 9.1% — up or down.
TSLA was one of the worst-performing stocks in the last twelve months. But it has since shown some signs of life, bouncing from around 102 to 143. Tesla stock is also trading above the 21-day exponential moving average. And it has the 50-day moving average in sight.
Let’s analyze how we can structure an option trade that fits the view that 1) we think TSLA stock will stay within the expected range; and 2) investors’ response to the earnings report is likely to be positive.
Taking the at-the-money put and call for the Jan. 27 expiration, we see that the expected range is 9.1%.
Tesla Stock Today
Now that we know the expected range, let’s find a bull put spread in Tesla stock with a short strike roughly 9.1% below the stock price.
Selling the Jan. 27-expiring put option with a 128 strike price and buying the 123 put would create a bull put spread.
This spread was trading for around $0.60 on Tuesday. That means a trader selling this spread would receive $60 in option premium with a maximum risk of $440.
That represents a 13.6% return on risk between now and Friday if TSLA remains above 128. If Tesla stock closes below 123 on the expiration date, the trade loses the full $440.
Breaking Even At This Price
The break-even point for the bull put spread is 127.40, calculated as 128 less the 0.60 option premium received per contract.
There is little room for adjustment with short-term trades such as this one held over earnings — even with Tesla stock. Short term trades also contain assignment risk.
A 14% return in a few days would be nice, but the possibility of losing 100% is also very real.
As such, this style of trade is only for traders with high risk tolerance and should use appropriate position sizing.
Bearish traders could trade the bear call spread version and neutral traders could use an iron condor similar to this example on Microsoft (MSFT).
Depending on how TSLA trades Wednesday, traders may prefer to wait for a price higher than $0.60 for the spread, or they could adjust the strike prices.
According to IBD Stock CheckupTesla stock ranks third in its group and has a Composite Rating of 46, an EPS Rating of 74 and a Relative Strength Rating of 5.
Please remember that options are risky, and investors can lose 100% of their investment.
Gavin McMaster has a Masters in Applied Finance and Investment. He specializes in income trading using options, is very conservative in his style and believes patience in waiting for the best setups is the key to successful trading. Follow him on Twitter at @OptiontradinIQ
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