After the bad break with the Fed reaction, we might need some time for healing. Traders wanting to take bullish exposure may want to think about doing so in a limited risk way. One way to do that is via options, using a bullish butterfly spread. We'll setup a trade with Meta stock that gets bullish exposure with limited risk and a big potential payoff.
Setting Up The Bullish Butterfly
Meta Platforms is one stock that has been holding up pretty well during this mini correction. According to IBD Stock Checkup, META stock is ranked No. 1 in its group and has admirable ratings from IBD: a Composite Rating of 99, an EPS Rating of 96 and a Relative Strength Rating of 88.
Traders can gain some upside exposure in a low-risk way via a bullish butterfly.
Butterfly spreads involve 3 different option strikes, all within the same expiration date, and can be created using either calls or puts.
Trading a butterfly with a bullish bias allows us to place the trade cheaply and have a large potential payoff.
Assume we have a price target of 640 for Meta within the next few weeks. That's right near its high from Dec. 11. Let's look at how we can set up a bullish butterfly based on those parameters.
- Buy 1 Jan. 31 call at a strike of 615 @ 20.20.
- Sell 2 Jan. 31 call at a strike of 640 @ 12.10.
- Buy 1 Jan. 31 call at a strike of 665 @ 6.95.
That puts the cost of the trade at just $295 per spread with a potential payoff much higher.
Profit And Loss For META Stock Option
The ideal scenario is for META to be right around 640 at expiration on Jan. 31.
The maximum loss on the trade is equal to the premium paid of around $295 per contract. This would occur anywhere below 615 or above 665.
The maximum potential profit on the trade is $2,205. This is calculated by taking the width of the butterfly (25) times 100 less the premium paid ($295).
Taking a low-risk trade like this can be one way to participate in any further rally without risking too much capital.
While the chances of getting the maximum profit relies on a close right at 640, there is a wide range of profit between the break-evens at 617.95 and 662.05. To calculate those numbers, take the long call strikes and either add or subtract the cost of the spread. Most important, the risk is minimal relative to the profit potential.
META is due to report earnings on Jan. 29, so this trade would have earnings risk if held through that date.
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 X/Twitter at @OptiontradinIQ
