Apple closed near the high of Tuesday's trade. A 2.7% gain that session lagged a 3% blast higher by the Nasdaq composite. However, the megacap tech has been putting in a series of higher lows since late June. Apple's stock has also traversed back above the all-important 50-day moving average.
Let's take a look at how we can use options to find a favorable risk-vs.-reward trade on the assumption that Apple stock moves 5% to 6% higher in the next month.
We will look at a bullish diagonal spread. This option strategy allows traders to get long on AAPL without risking too much capital.
Bullish On Apple Stock: The Diagonal Call Spread
A bullish diagonal spread trade involves buying a long-term call option and selling a shorter-term, further out-of-the-money call option.
Traders with a price target of 155 could place the bullish diagonal spread at that price.
Selling the Aug. 19-expiring 155-strike monthly call option will generate around $390 in premium, and buying the Sept. 16 140-strike call will cost around $1,515.
That results in a net cost for the trade of $1,125 per 100-share spread, which is the most the trade can lose.
The estimated maximum profit is around $500, but that can vary depending on changes in implied volatility. The maximum profit would occur if AAPL closes right at 155 on Aug. 19.
Why This Trade Makes Money
The idea with the trade is that if the stock trades up to around 155, the diagonal spread in Apple will increase, resulting in a net profit.
See a bullish diagonal spread as a good way to gain some upside exposure on a stock without risking too much if it doesn't move higher.
The combined position has a net delta of 31, which means the trade is roughly equivalent to owning 31 shares of AAPL stock, although this will change as the trade progresses.
The suggested stop loss level: Watch for a close below 145.
Apple stock holds a Composite Rating of 83, an EPS Rating of 90 and a Relative Strength Rating of 73. The Cupertino, Calif., firm is due to report earnings on July 28, so this trade would have exposure to earnings if held through that date.
Please remember that options are risky, and investors can lose 100% of their investment.
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
