You just can’t keep a bull market down.
Stocks continue to ratchet higher in the face of slow economic growth, modest job gains, and a year of disasters like hurricanes in Florida and Texas and wildfires in Western states.
Why are stocks still bullish? Simply put, because they’ve been bullish. It’s the trend, and until the trend changes, the old trading adage holds true: it’s your friend.
But it’s been a tough trend to follow. While the S&P 500 has made 37 new highs year-to-date, new highs tend to be close to previous highs. It’s a gradual process, not a sprint. And given how stocks have been in rally mode from their financial-crisis lows in early 2009, we’re at the point where the big moves in the market seem past.
That’s OK. While the focus is usually on the overall market, there are plenty of individual stocks that haven’t gone along for the ride. A few big companies, mostly in the technology space, have been leading the way.
Understanding what’s really going on in the markets behind the big headlines is key to making market-beating profits right now.
That’s especially true for investors who want to use options to improve their returns. Finding a stock likely to rally another 10-15 percent by the end of the year is great, but if you use options, you could double your money or more instead.
Think about it this way: If you buy $5,000 of a company and it goes up 10 percent, you’ve made $500. But if you put a fraction of that into buying call options on a company, say, $1,000, and it doubles, you make $1,000. That’s the power of options. It lets you control a large amount of shares for a small amount of capital. In the right place and the right time, it can provide great returns.
So options can not only improve your returns, they can do so with less capital at risk. Yes, the $1,000 in options could drop to zero. But a stock trading at $50 could easily drop to $40 even in this market, and turn a $5,000 stake into a $4,000 one.
The strategy here is pretty simple: buying call options. It’s been a great year to buy call options on companies in the tech space, specifically chipmakers like Advanced Micro Devices (AMD) and graphics card processor NVidia (NVDA). Both companies are in rally mode and have been surging year-to-date. But they’ve also been prone to big pullbacks along the way.
The best way to take advantage of this trend is to buy some call options when shares are having a bad day. It’s hard to go more than a few weeks without a sizeable one-day decline of 5 percent or more with shares. It’s also a strategy that could work for slower companies that are still in rally mode as well, such as Apple (AAPL) or Alphabet (GOOG).
Again, this is a strategy known as buying call options. It’s got a right place and time—and tech still seems to be in the right place right now. But options are limited. They eventually expire. That’s why timing can be important too when buying call options.
But there’s a way to take advantage of how options eventually expire as well. I’m talking about selling put options. That’s a strategy that we’ve used time and again to make steady profits in the options market.
Unlike buying an option, however, the returns are more stock-like. We won’t double our money every year, but can make up to 20 percent or so in extreme cases. That’s still a great return that beats the pants off of the stock market’s long-term average. And that’s assuming no leverage with put sales. Add that back in, and the returns are great, but not as potentially great as on the buy side.
That’s okay. When you sell a put option, you’re essentially acting as an insurer to someone else. You’re willing to buy shares of a company at the strike price, and you’re getting paid for that risk. So for companies that the market has unfairly beaten down in recent months as the overall market has headed higher, it’s been a solid strategy.
It can be done with just about any company you’re comfortable owning at an option strike price. In recent weeks, it’s a strategy I’ve used to take advantage of moderate price drops in The Walt Disney Company (DIS), Advance Auto Parts (AAP) and General Electric (GE).
All these companies are out of favor with the market and face individual headwinds. But I expect all three companies to eventually recover from being out of favor. I don’t expect them to rally right away—the market is being too fickle for that. But I think the worst is over. If I’m wrong, I’ll end up owning shares. If I’m right, I’ll keep all the option premium I’m selling.
For these put sale trades, I’m looking to make around 5 percent or so within six months. That doesn’t sound like a lot, but annualized it’s better than buying and holding stocks. And combined with the call options I’m buying on tech names, it’s part of a one-two punch strategy to profit from this split market that’s rewarding some companies greatly while penalizing others.
What’s great about combining this strategy is that it provides the chance for some big gains, but also brings in money via put sales to offset the occasional loss from buying a call option.
I’m not ignoring the chance to buy great companies outright and skipping the options market, but those opportunities are a bit more far and few between right now. That will change someday. Until then, as long as the current trend is in place, the best way to profit is with some strategic options trades.
Andrew Packer is a Senior Financial Editor with Newsmax Media. He currently writes the Insider Hotline investment advisory, serves as investment director for the Financial Braintrust, and writes the monthly newsletter Crisis Point Investor.
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