Why Apple options make more sense
Chris McKhann | [email protected]
Buying a stock that is up 400 percent in the last three years is clearly betting on a winner. But the cost of that run-up means that buying just 100 shares will set you back more than $50,000.
As Jon mentioned on CNBC's "Fast Money" recently, this is why it makes more sense to use the options. Buying 1,000 shares of AAPL "is a new house," he said. (Watch video here)
With the stock at these stratospheric levels, the simplest way to play the name is to buy calls. The April 500 calls cost $26.80 on optionMONSTER's systems at the time of this writing, which translates to a total cost of $2,680 for the right to buy 100 shares of AAPL for $500 through the April expiration. The temptation will be to go for the nearer expiration to pay less for the exposure, but time decay eats at those nearer options in an even greater way.
Ultimately, AAPL has to be above $526.80 at the expiration on April 20 for the calls to be in the money. But most buyers will probably look to sell their options well before then, avoiding the risk of having these long calls expire worthless if the stock goes down.
To reduce the cost of opening a position, a trader could buy a vertical spread instead. Buying the April 500/520 call spread in Apple would cost just $9. The same spread in March would cost a bit less--$8.40--but would need the stock to move a month faster for the position to be profitable.
Selling puts is another way to play the stock. That would leave you both in a position to profit both from a continued rally and/or from time decay.
As long as the stock stays above the strike price, for example, you would get to keep the premium from selling the puts. If it drops below that level, you would be required to buy the stock, but effectively at a lower entry price because of the credit earned from the put sale.
This also requires you to have enough cash in your account to buy the shares. However, in addition to selling those puts, you could buy others at a lower strike to create a credit spread. That would limit your gains if the stock rises but also greatly reduce the amount of margin necessary to hold the position because it provides protection in case the shares fall.
Another strategy that I have used with success in trading Apple is a bullish butterfly spread. This would combine that same April 500/520 call spread with an April 520/540 credit spread that takes in about $6. So the net cost of the 500/520 spread would be $3, with less upside potential but also less risk to the downside.
In this case the most that you could lose is $340, and it can make $1,660 if AAPL is around $520 at expiration. But beware, if the stock runs too high, you can still lose money even though it's going in the right direction for this trade. That's the nature of the bullish butterflies.
Regardless which strategy you choose, there are far more choices than simply buying the shares. And options allow you to use leverage in your trades, as opposed to just plunking down a large sum of cash for relatively limited exposure.
(This article originally appeared in optionMONSTER's What's the Trade? newsletter on Wednesday. Screen shot courtesy of CNBC.)