ADBE Stock Bullish Diagonal Trade Targets a Price of $560 by March 22

A bullish diagonal spread is an advanced option trade and generally not suitable for beginners, but it can have its place within an option portfolio.

It is a bullish strategy that benefits from time decay and is best placed when volatility is low, such as the current conditions.

The strategy involves buying a long term, in-the-money call and selling a monthly out-of-the-money call against it.

The trade is best placed when the trader has a bullish outlook and thinks the stock could get to the short call strike by the first expiration date.

A rise in implied volatility will benefit the trade as it has positive Vega overall.

The big risk with the trade is a sharp move lower early in the trade.

Let’s look at an example using Adobe (ADBE).

ADBE Stock Bullish Diagonal Example

Adobe has been under pressure lately but is so far holding above the 200-day moving average.

Let’s look at how we can use options to find a favorable risk to reward trade on the assumption that ADBE stock might rally to $560 in the next few weeks.

We will look at a bullish diagonal spread which allows traders to get long ADBE without risking too much capital.

A bullish diagonal spread is a trade that involves buying a long-term call option and selling a shorter-term, further out-of-the-money call option.

Structuring the trade at $560 gives the trade around 23 delta, which is roughly equivalent to being long 23 shares of the stock.

With earnings set for March 14th, the trade also take advantage of the volatility skew around that event.

Selling the March 22nd $560-strike call option will generate around $1,840 in premium and buying the September 20th, $520-strike call will cost around $7,670.

That results in a net cost for the trade of $5,830 per spread, which is the most the trade can lose.

The estimated maximum profit is around $2,750, but that can vary depending on changes in implied volatility. The maximum profit would occur if ADBE closes right at $560 on March 22.

The trade benefits from time decay as the short-term option will decay at a faster rate than the longer-term option.

The ideal scenario for this ADBE trade is for the stock to stay above $520 for the next few weeks.

A bullish diagonal spread is a good way to gain some upside exposure on a stock without risking too much if the move doesn’t eventuate.

The suggested stop loss level is a close below $520.

Here is a visual of what the trade looks like:

Company Details

Adobe Inc. is one of the largest software companies in the world. 

Adobe picks up licensing fees from customers, which form the bulk of its revenue. 

The company also offers technical support and education, which account for the balance. 

The company operates through three segments. 

The Digital Media solutions segment enables small businesses and enterprises to create highly compelling content, deliver it across diverse media through smartphones, tablets, e-readers, and other devices, and then optimize it through systematic targeting and measurement. 

Within Digital Media, the two major components of revenue are the Creative family of products and Document Services products. 

The target customers are traditional content creators, web application developers, digital media professionals and user interface designers/developers, writers, videographers and photographers.

ADBE rates as a Strong Buy according to 21 analysts with 1 Moderate Buy rating, 5 Hold ratings and 1 Strong Sell rating.

Implied volatility is at 46.32% compared to a 12-month low of 24.34% and a 12-month high of 47.80%. 

Please remember that options are risky, and investors can lose 100% of their investment. This article is for education purposes only and not a trade recommendation. Remember to always do your own due diligence and consult your financial advisor before making any investment decisions.

On the date of publication, Gavin McMaster did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.