Today's column looks at Chevron, a member of the Dow Jones Industrial Average. Amid a severe sell-off in crude oil futures this past week and a pullback by CVX stock, now may be a good time to consider a short iron condor in options trading.
Near-term light sweet crude oil futures fell as much as 10.2% this past week, hitting a weekly low of $81.50 a barrel. Meanwhile, the trade in CVX stock holds the premise that we are in a wide-ranging bit of price action as traders battle to position for the next move.
The rising VIX (the 30-day implied volatility reading of the market) still gives me pause. But with so many oversold conditions being called out, it appears that traders will try to carve out a trading floor and likely run right back into resistance. The reason: We are clearly in negative trend in the near term.
Why Target CVX Stock?
Because energy remains the backbone of all production output, whether industrial or technical, it seems appropriate that I suggest a monolith from the energy complex.
Traders sit on both sides of whether to invest in the oil sector right now. Nevertheless, CVX stock, the only energy stock in the Dow Jones industrials, makes an ideal candidate for our strategy because of the differing arguments about whether to invest there or not.
Caught in the recent downdraft of oil, Chevron has given up a fair bit of its price since the year began, leaving its stock price caught in a very visible trading range between 150 and 170. We will use this knowledge to create a position that will benefit from the likely sideways range we see in the energy complex over the coming months. We shall revisit the familiar short iron condor with longer duration.
For CVX stock, the short iron condor with longer expiration carries these legs:
- Sell to open 1 CVX Jan. 19 call with a 170 strike
- Buy to close 1 CVX Jan. 19 180 call
- Sell to open 1 CVX Jan. 19 150 put
- Buy to close 1 CVX Jan. 19 140 put
This will create a credit event of $4.90, or $490 in premium collected per set of contracts. The trade sets a break-even high price of $174.90 (the sold call option strike plus the collected premium) and a break-even low price of $145.10 (the sold put option strike minus the collected premium)
Defending The Trade
Stock hunting using fundamental and price strength within the IBD methodology is where I firmly plant myself under the backdrop of the current economic backdrop. I use technical analysis to find ideal buying opportunities in conjunction with the tools for strength seen on IBD. The option toolbox also gives me a great advantage studying the many ways to extract money and position myself in the market.
A few more points on understanding the short iron condor with extended time in play.
One, selling an iron condor is a neutral position that assumes price action will be somewhat sideways during the time the iron condor is in play. Options sellers are positioned to win in two ways. One, the stock does nothing, or two, the stock moves within the ranges. So we use this concept to minimize the risk of market exposure.
Weekly price support sits near 150; meanwhile, 170 sits as near-term resistance. (Please see a MarketSmith chart for the clean lines showing this range). However, our goal with the iron condor? Simply let theta or time decay allow us to be paid for the time in the chart.
More On Trade Management
Consider these scenarios for the short iron condor trade in CVX stock:
- CVX stock grinds lower but does not break the 145 price for more than three days. This gives bottom pickers time to engage in support behavior. If CVX stock stays below 145 for more than three days, we must exit the trade.
- CVX stock grinds higher but does not break 175 for more than three days. Top pickers have time to engage in resistance behavior. If CVX stock stays above 175 for more than three days, we must leave the trade.
- Chevron holds these ranges until we have 30-40 days left in the position. This is the sweet spot for our exit. The closer we get to expiration, the more sensitive options get to pricing and volatility. When we get closer to expiration, price movement will have a greater effect on the option chains and that can be unfavorable.
As with all trades, consider what you like about holding the position in the first place. Consider your risk carefully. Be patient and allow price action to move around a range of your stops.
Anne-Marie Baiynd is a 20-year veteran trader of stocks, options and futures and is the author of "The Trading Book: A Complete Solution to Mastering Technical Systems and Trading Psychology." She holds no positions in the investments she writes about for IBD. You can find her on Twitter and Stocktwits at @AnneMarieTrades
