Apple is currently trading with a very low implied volatility (IV) rank. This means options are cheap compared to the last 12 months. That could mean it's a good time to look at a breakout trade in Apple stock, namely via a long strangle.
Similar to this idea from a few weeks ago on Palantir Technologies, Apple stock could either continue its upward momentum, or suffer a pullback.
A long strangle is constructed through buying an out-of-the-money call and an out-of-the-money put. The trade aims to make a profit from a big move in either direction by the underlying stock, or from a rise in volatility.
Buying a long strangle is cheaper than a buying a long straddle, but will still suffer from time decay. That means the options will lose a little bit of value with each day that passes in which the stock fails to make a big move.
With a long strangle, the further out in time the trade is placed, the slower the time decay, but the options are more expensive and require more capital.
Apple Stock Today: The Setup
For Apple stock, a long strangle could be placed by buying a call option with a 260 strike price and a 225 strike put, both for the Feb. 21 expiration. The call recently was trading around $3.50 and the put around $2.70.
When we add the two together, the total cost of the trade would be around $6.20 for the two shares, or $620 per set of contracts. See this amount as total risk in the trade, or the maximum that could be lost.
Calculate the breakeven prices by taking the strike price plus and minus the cost of the strangle. Therefore, we get breakeven prices of 218.80 and 266.20 in Apple stock. But profits can also generate with a smaller move if the move comes earlier in the trade. For example, the estimated breakeven prices in late December are around 230 and 252.
Changes to implied volatility will have a big impact on this trade and the interim breakeven prices. So, make sure you have a solid understanding of volatility before placing a trade like this.
The Ideal Move
The ideal scenario is a large move in either direction within the first week or two of the trade.
The worst-case scenario with this AAPL long strangle? A stable stock price! In this case, we would see the call and put slowly lose value each day. For a long strangle I usually set a stop loss at around 20% of capital at risk which would be around $120 and a profit target of around 40%. I also wouldn't hold the trade any longer than late-December.
According to IBD Stock Checkup, Apple stock ranked first in its group and has a Composite Rating of 90, an EPS Rating of 90 and a Relative Strength Rating of 78.
Please remember that options are risky and investors can lose 100% of their investment.
This article 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
