Despite recent volatility, there are a number of stocks that have traded in fairly narrow trading ranges lately. Boeing could be considered among them. Though it struggled over the past few year, over the last six weeks it traded in a narrow range above its 200-day moving average line.
A long strangle on Boeing stock is a good way to profit on a breakout from this range. But the reality is that it will profit from a big move in either direction by the underlying stock.
Constructing A Long Strangle
A long strangle consists of buying an out-of-the-money call and an out-of-the-money put. Like a long straddle, the trade aims to profit from a big move in either direction.
Buying a long strangle is much cheaper than buying a long straddle, but it will still suffer from time decay. That means the options will lose a little bit of value with each day that passes if the stock doesn't make a big move.
With a long strangle, the further out in time the trade is placed, the slower the time decay, but the options are more expensive and require more capital.
For Boeing, a long strangle using a 200-strike call and a 160-strike put at the June 20 expiration is one way to set the trade up. The call traded around 6.25 yesterday and the put was about the same at around $6.25. When we add the two together, the total cost of the trade is around 12.50 per contract or $1,250 after multiplying by 100 shares per contract.
The profit potential is unlimited for a long strangle since the long call value will increase with the stock price and the long put will just be a sunk cost.
The maximum risk, however, is capped at the $1,250 cost of the trade. Again, a straddle at that expiration could easily be more than double that.
Managing The Trade
The breakeven prices are calculated by taking the strike price plus and minus the cost of the strangle. In this case, at 147.50 and 212.50. But those numbers are at expiration. Depending on changes to implied volatility and how quickly the stock moves, the trade could be profitable much sooner.
For example, the estimated breakeven prices on Feb. 28 are around 160 and 190.
Changes to implied volatility will have a big impact on this trade and the interim breakeven prices, so it's important to have a solid understanding of volatility before placing a trade like this.
The ideal scenario is a large move in either direction within the first week or two of the trade.
Matt Caruso talks about using options to hedge stock positions on this "Investing With IBD" podcast.
The worst-case scenario with this Boeing long strangle is a stable stock price. That would see the call and put slowly lose value each day. For a long strangle I usually set a stop loss at around 20% of capital at risk. In this case, that's around $250.
In addition to a stop loss based on price, it makes sense to have a stop based on time. I wouldn't hold the trade any longer than March 31. After that, the time decay will happen faster and be harder to overcome.
I would also set a profit target of around 40%.
According to IBD Stock Checkup, Boeing stock ranked No. 47 in its group and has a Composite Rating of 36, an EPS Rating of 1 and a Relative Strength Rating of 53.
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.
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 X/Twitter at @OptiontradinIQ
