Gold stocks have been in rally mode, including Newmont, which shot higher Wednesday as the price of spot gold smashed through $1,840 an ounce. Gold stocks have gained favor recently as a hedge against the worst U.S. inflation in nearly 40 years.
A few weeks ago we looked at how to use options to generate income from gold investing. Today, we're looking at an option trade for NEM stock, one of the most liquid gold stocks.
NEM stock is above all key moving averages and broke out above resistance yesterday.
Investors who think NEM stock will continue to rally and don't want to risk significant capital can use long call options rather than buy the stock outright.
A call option is a contract between a buyer and seller. The contract gives the buyer the right to purchase a certain stock at a certain price (strike price) up until a certain date (expiration date).
One of the benefits of call options is that they provide leverage (this can be both a good and a bad thing).
Assuming an investor wanted to buy 100 shares of NEM stock, they would have to invest around $6,500 at the current price.
Gold Stocks: Call Option For NEM Stock
Instead, the investor could gain a similar exposure using a fraction of the capital by buying a call option.
One call option gives the investor exposure to 100 shares.
If an investor were to buy one NEM 55 call option expiring on June 17, they would only need to invest around $1,100 rather than $6,500.
The break-even price for this call option is equal to the strike price plus the premium paid, which would make the break-even price 66.00.
The most the trade can lose is the premium paid of $1,100, which would occur if NEM stock finishes below 55 on June 17.
Unlimited Upside
However, if NEM stock shoots higher, the upside is unlimited.
Using options in this way can be a great way to gain exposure to a stock without risking as much capital as would be required to buy the stock outright.
Savvy traders can further reduce the risk by selling an out-of-the-money call, turning the trade into a bull call spread.
For example, selling the June 17, 72.50 call would reduce the trade cost by around $235 but would also limit the upside above 72.50.
Newmont is set to announce earnings Feb. 24, so this trade would have earnings risk if held to expiration.
Newmont is ranked No. 5 in its group, helped by a Composite Rating of 76, and EPS Rating of 78 and a Relative Strength Rating of 80.
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 Twitter at @OptiontradinIQ.
