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Investors Business Daily
Business
GAVIN McMASTER

How To Profit From Amgen Stock's Plunge Using Options

Amgen stock has had a difficult few weeks, with the stock dropping from 295 to 240. It is currently the most oversold stock in the Dow Jones Industrial Average.

When a quality company has a big drop like this, I like to use a strategy called 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:

The trade I'm looking at is selling a March 17 put with a strike price of 220, and buying an April 21 put with a strike price of 215.

As of Wednesday's close, the March 17 put could be sold for around 1.40 and the April 21 put could be bought for 2.15.

Aim For Return Of 10%-15%

The net cost on the trade would be $75. That is the most the trade could lose on the upside.

The risk on the trade is on the downside with a potential maximum loss of $575. This is calculated by taking the difference in the spread (5) multiplied by 100 and adding in the cost of the trade (75).

The maximum potential gain is around $360, which would occur if Amgen stock closes right at 220 on March 17.

The trade has a nice profit zone in between 214 and 238.

Aiming for a return of around 10% to 15% makes sense, and I would set a similar-sized stop loss.

The worst-case scenario is a sharp drop in Amgen stock early in the trade. For this reason, if the stock drops below 220 in the next few days, I would also consider closing the trade early to minimize losses.

Trade Equivalent To Shorting One Amgen Share

The initial trade set up has a delta of -1, meaning the position is roughly equivalent to being short one share of Amgen. Note that this delta number can change significantly as the stock starts to move.

According to the IBD Stock Checkup, Amgen stock is ranked No. 120 in its industry group (which has nearly 800 companies) and has a Composite Rating of 55, an EPS Rating of 66 and a Relative Strength Rating of 20.

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.

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