Earlier this week, I told you about the AVGO trade I opened this week.
This was a pretty quiet week, so that trade was in our favor the entire week. No excitement there.
Overview
Back at the beginning of October my followers and I also traded AVGO. It’s a strong that I’ve gone back to many times.
But that trade in early October was about as wild a ride as I’ve seen in a long time.
So today I want to walk through the trade with you… So you can see why the specific kind of trade I use lets us win even when the position moves against us.
Setting Up The AVGO Trade
On October 10th, as I do most weekends, I opened an income trade.
As with most of my income trades, I first determine the momentum of a stock: in this case, AVGO was trending bearish.
As I’ve said before, momentum in the market is a real and powerful force.
So when something is trending down, the trades I place involve selling bullish options.
That lets me collect instant income from selling the option.
And because the momentum tells me that the stock is very unlikely to move upward, it’s like making a promise you very likely won’t have to fulfill.
This particular week, AVGO was trading around 861.
So I sold a 900 call and bought the 905 call as a backstop.
So What Happened That Week?
Well, for about 24 hours the price of AVGO moved sideways and we were perfectly safe.
But then on Thursday morning, AVGO spiked up and just kept going and going.
It blew right through the 900 level that we sold our call at. And soon enough it was above the 905 call that we had bought.
And that’s why I like to say that with this kind of trade, it the price moves far enough against you, it can actually start working in your favor again.
It all depends on how you handle it.
That’s why I tell folks that the most important part of getting into a trade is planning how you are going to get out BEFOREHAND.
That means when you open the trade, at that point you decide under what conditions you will exit the trade.
There are 3 possibilities with this kind of trade:
- Do Nothing: If you see the spike as a temporary blip, and you expect the options to expire out of the money, staying put could be a viable option.
- Unwind the Trade: This involves buying back the 900 call and selling to close the 905 call. If you do this right, before the price gets too close to your strikes, you could exit with a minimal loss or even a breakeven.
- Adjust the Position: This is potentially the most valuable choice, but everything has to work out perfectly. And in the case of this AVGO trade, this would have made you a pretty penny.
This involves buying back the 900 call at a loss. But if you expect the stock to spike wildly, just like AVGO did on this week, the 905 call that you bought will skyrocket in value. It’s a dream scenario and with the proper timing, anyone who was in this trade this week could have done that.
In The End
In the end, I chose option #1: Do nothing.
AVGO had spiked up on news and I felt that the stock could not possibly sustain that sudden spike.
I was right — and by Friday afternoon the stock had fallen down below both of our strikes and expired worthless.
But this was a picture perfect lesson in what I always tell people: before you place the trade, decide how you are going to get out.
The worst time to decide is when a trade moves against you. If you set up your exit plan before hand and you execute it, you will not only be making a decision with a cool head.
You will be developing the discipline needed to be a successful trade.
Trade well,
Jack Carter
P.S. I recently went live with Norman Hallett to share how the Fed’s changing stance on interest rates could supercharge this strategy. If you didn’t get to catch it, I recorded it for you. Click here to watch it now.
