Snowflake was Friday's IBD Stock of the Day and has seen the stock price explode higher in recent weeks. The stock broke out of a cup-with-handle base Monday morning.
Income investors might consider a strategy known as a covered call.
A covered call strategy is one way to slightly reduce the risk on a long stock position while also generating some premium. The catch is that upside is limited above the covered call strike.
Let's look at how a covered call trade on SNOW stock might take shape.
Buying 100 shares of Snowflake would cost around $19,067 at Friday's closing price.
A Feb. 16, 200-strike call option is trading around $9, generating $900 in premium per contract.
Selling Call Option May Return 54% Annualized
Selling the call option generates an income of 4.95% in just over two months, equaling around 26% annualized.
If SNOW stock closes above 200 on the expiration date, the shares will be called away at 200. That would leave the trader with a total profit of $1,833 (gain on the shares plus the $900 option premium received).
That equates to a 10.09% return, which is 54% on an annualized basis.
Of course, the risk with the trade is that SNOW stock might drop. That could wipe out any gains made from selling the call.
Strategy Generates Income, Reduces Cost
Covered calls can be an effective strategy for generating income, managing downside risk, and reducing the effective purchase price of a stock.
According to the IBD Stock Checkup, SNOW stock is ranked No. 20 in its industry group and has a Composite Rating of 96, an EPS Rating of 82 and a Relative Strength Rating of 90.
Please 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
