Meta Platforms is showing extremely high implied volatility in the lead-up to its earnings announcement on Wednesday.
There is also significant volatility skew, with short-term options showing much higher implied volatility than long-term options.
One way to take advantage of this skew is via a diagonal put spread. This option strategy is an advanced strategy because it utilizes options over different expiration periods and different strike prices.
Let's look at an example.
Traders could sell an Oct. 27 put with a strike price of 300 and buy a Nov. 17 put with a strike price of 290.
As of Wednesday's close, the October put could be sold for around $7.60 and the November put could be bought for $7.65.
Meta Stock Trade Risk On Downside
The net cost of the trade would be 5 cents per contract. That means there is nearly no risk on the upside.
The risk on the trade is on the downside, with a potential maximum loss of $995. This is calculated by taking the difference in the spread (10) multiplied by 100 and factoring in the cost (5).
The maximum potential gain is around $1,035. It would occur if Meta stock closes right at 300 on Oct. 27.
The trade has a nice profit zone between 280 and 370.
If Meta stock stays between these values, the trade should do well. The main risk is if the stock drops below 280.
Trade About Same As Owning 5 Meta Shares
The initial trade set-up has a delta of 5, meaning the position is roughly equivalent to owning 5 shares of Meta Platforms. Note that this delta can change significantly as the stock starts to move.
According to the IBD Stock Checkup, Meta stock is ranked No. 1 in its industry group. It has a Composite Rating of 99, an EPS Rating of 86 and a Relative Strength Rating of 98.
It's important to 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 Twitter at @OptiontradinIQ
