Biotech stocks are back in the news lately. While Gilead Sciences has not been a leader this year, it has led bull runs in the past. Thus, let's focus on a broken wing butterfly trade in GILD stock.
In a Thursday story published on Investors.com, Gilead got highlighted for extraordinary results with one of its newest preventive drugs managing HIV infections. This led to a surge in the price of GILD stock and a recapture of the 50-day moving average. Gilead has cut its year-to-date loss to 13%.
IBD's Medical-Biomedical/Biotech industry group has not done well on a year-to-date basis. On a price-weighted basis, the group has risen minimally since Jan. 1. But in terms of six-month relative price performance, the group currently ranks No. 38 among 197 industries tracked, according to IBD Data Tables.
How about the chart backdrop in Gilead? Still dismal. But with the stock clearing a narrow base at 68.37 and recapturing a key moving average, one may expect Gilead to hold this range after the big price boost.
This is a slow-burn trade. So, GILD stock is likely to hold its value as long as the chart holds the current trading range between 62 and 72.
To make money on "consolidation moves," we have several choices. I often go to the short iron condor to take a credit spread from the passage of time. But today's column considers the broken wing butterfly.
GILD Stock Today: The Trade Set-Up
The broken wing butterfly features a debit spread on one side and a credit spread on the other side. In our case, we are going to look at calls. Thus, we will position a long call spread in GILD stock with a 10-point-wide strike difference. Meanwhile, the short call spread carries a 20-point-wide strike.
The risk here? GILD stock moves above 80 before expiration. This begins to create additional risk for holding it. However, the chart still shows weakness in the medium term. View this possible outcome as lying on the tails of the probability curve.
Let's consider this trade structure:
- Buy to open one GILD Nov. 15-expiration call option with a 60 strike price
- Sell to open two GILD Nov. 15 70 calls
- Buy to open one GILD Nov. 15 90 call
Set An Alert Here
Total debit of $1.96 per set of contracts, based on recent trading, stands as total risk for this trade. Make sure to use limit orders to keep the total cost of this trade low.
Since we do not want the price of GILD stock to breach 80, set an alert for this strike price. The break-even price stands at 61.96. Calculate the total potential profit as the width of the long spread ($10) less the cost of the entire butterfly ($1.96). Therefore, the trade shows $8.04 of maximum total upside per set of contracts, less commissions.
This is a unique butterfly positioning. How so?
First of all, the trade already lies deep in the money and close to the middle strike. Why should you do this? Well, have a look at the research here on Investors.com. It has a proving ground to be sure, so we position the trade in the money with the idea that the price of GILD stock takes time meandering through the range.
The ideal strategy result gives us three choices to exit the trade. One, sell the spread once GILD stock carries an acceptable profit, or around 100% for me with butterflies. Two, sell the spread once it hits your loss threshold as determined by personal risk. And three, sell the spread into the week before expiration, if all is going well. In this strategy, I have had many a trade go sideways, taking it down to the wire, before finally capturing gains.
Defending The Trade In GILD Stock
Stock hunting using fundamental and price strength within the IBD methodology is where I firmly plant myself under the current economic backdrop. I use technical analysis to find ideal buying opportunities in conjunction with the tools for strength seen on IBD.
The goal of taking the butterfly that is deep in the money? Position the trade in the likelihood that Gilead holds in the current price range over the next 60 days and near the middle strike of this trade, or 70. We could also sell strikes further out in time to finance our position.
Trade Management
Let's identify key chart levels in GILD stock. The monthly resistance zone sits right around 73.
Support for Gilead shares sits near 57. That price level should bring buyers into the stock.
Also, consider these scenarios:
- GILD stock falls below 60 or rises above 80. Our butterfly becomes worthless or adds risk, so set risk limits.
- Shares sits in the current range. Our butterfly trade expands in price.
As with all trades, consider what you like about holding the position in the first place and 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 X at @AnneMarieTrades
