Netflix is due to report earnings on Thursday after the market close and the options market is pricing in a 9.5% move in either direction on the stock. That comes in slightly larger than the 8.3% move priced in before last quarter's earnings.
Here's how to structure an option trade that fits the view that, one, Netflix stock will stay within the expected range and, two, the response to the earnings report is likely to be positive.
Due to the holiday on Friday, we'll go out to the April 25 expiration and take the at-the-money put and call as Netflix trades around 985 this morning. It has a combined premium of roughly 94 giving us an expected range of 9.5%. With the expected range known, then investors look for a bull put spread with a break-even price roughly 9% below the current price.
Creating A Bull Put Spread Around Earnings
Selling the April 25, 890-strike put and buying the 885 put creates a bull put spread. This spread traded around 95 cents this morning. That means a trader selling this spread would receive $95 in option premium. Further, the maximum risk is $405.
It represents a 23.5% return on risk between now and the end of the week. That assumes Netflix stock remains above 890. If Netflix stock closes below 885 on the expiration date the trade loses the full $405. Also, the break-even point for the bull put spread is 889.05, which is calculated as 890 less the 95-cent option premium per contract. That gives the stock room to drop 9.6% and still not take a loss.
There is little room for adjustment with short-term trades such as this held over earnings. A 23.5% return in just over a week's time would be nice, but the possibility of losing 100% is also very real. As such, this style of trade is only for traders with a high-risk tolerance and a bullish outlook for the stock.
Netflix Stock Is Tops In Its Group
According to the IBD Stock Checkup, Netflix stock is ranked No. 1 in its group and has a Composite Rating of 99, an Earnings Per Share Rating of 98 and a Relative Strength Rating of 95.
Please remember that options are risky, and investors also 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, and is conservative in his style. He believes patience in waiting for the best setups is the key to successful trading. Follow him on X/Twitter at @OptiontradinIQ.
