Salesforce is a highly rated stock with an outstanding three-year EPS growth rate of 28% and a three-year sales growth rate of 15%.
There is also some volatility skew due to earnings on Dec. 3, with short-term options showing higher implied volatility than long-term options.
One way to take advantage of this skew is via 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:
Traders could sell a Dec. 6 put with a strike price of 295 and buy a Dec. 20 put with a strike price of 290.
As of Wednesday's close, the Dec. 6 put could be sold for around 2.95 and the Dec. 20 put could be bought for 3.25.
The trade would result in a net debit of around $0.30, which means there is very little risk on the upside. The worst that can happen is that the puts expire worthless and the trader loses the $30 in premium paid.
Max Potential Gain Of $1,500
The risk on the trade is on the downside, with a potential maximum loss of $1,030. This is calculated by taking the difference in the spread (10) multiplied by 100 and adding the premium paid ($30).
The maximum potential gain is around $1,500, which would occur if Salesforce closes right at 295 on Dec. 6.
The breakeven price is estimated at around 279. The trade will do well if Salesforce stays above 280 for the next week or so.
Aiming for a return of around 10%-15% makes sense, and I would set a similar stop loss.
The worst-case scenario is a sharp drop in Salesforce early in the trade. For this reason, if the stock drops below 295 in the next few weeks, I would also consider closing the trade early to minimize losses.
The initial trade set up has a delta of 1, meaning the position is roughly equivalent to owning one share of Salesforce. Note that this delta number can change significantly as the stock starts to move.
One of the advantages of the trade is that the put we are selling has higher volatility (51%) than the put we are buying (43%). Just like stocks, when it comes to volatility, we want to buy low and sell high.
Close Salesforce Trade Before Earnings
Closing before the earnings date of Dec. 3 is a good idea to avoid earnings risk.
According to the IBD Stock Checkup, Salesforce stock is ranked No. 7. In its industry group and has a Composite Rating of 97, an EPS Rating of 97 and a Relative Strength Rating of 85.
A bull put spread for Nvidia earnings discussed Monday looks like it should achieve a full profit.
It's important to remember that options are risky and investors can lose 100% of their investment.
This article on Salesforce stock 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
