This week, we will go over a modified short iron condor spread in IBM. IBM stock could be ready to cool off after a terrific run.
Why consider this trade? We would expect chart action as follows: congestion (limited price movement up or down), then price range expansion, and then congestion once more.
The near-term chart action for IBM stock shows weekly congestion of around 10 points wide. Plus, the breakout to new highs is now stalling out at that $10-wide expansion. Therefore, we expect the chart to continue higher in the long run. But consolidation seems likely for a bit of time.
IBM Stock Today
News in IBM stock has been favorable, as this recent post highlights. Meanwhile, interest rates are predicted to hold steady into the March FOMC meeting. It suggests that IBM stock and its compatriots might tread water a bit but still potentially grind their way north.
The overall bullish context of the market remains. One of my favorite adages is "The market is like real estate; the neighborhood is more important than the house." This implies we stick with stocks in groups and sectors that are trending higher and where dips are being bought.
Setting Up The Trade
This modified short iron condor spread is a neutral to bullish position and estimates that prices will sit in a range and allow us to capture erosion in price from the passage of time to deliver steady gains.
Construct the modified short iron condor spread in this manner:
- Sell to open 1 IBM May 17-expiration call with a 210 strike price
- Buy to open 1 IBM May 17 220 call
- Sell to open 2 IBM May 17 180 puts
- Buy to open 2 IBM May 17 170 puts
Total credit of $5.35 per set of contracts, based on recent trading, means the break-even cost for the trade in IBM stock sits near two levels: 215.35 on the high side, 174.65 on the low side.
The strategy result gives us two simple choices to exit the trade. One, sell the spread once it carries an acceptable profit — around 50% for me. Two, sell once it hits your loss threshold as determined by personal risk.
Defending The Trade In IBM Stock
I am slanting the bullish motion in IBM stock by selling twice as many put spreads as call spreads. I'm also giving the chart an additional 8% move up or down without eating into the profit.
Stock-hunting using fundamental and price strength within the IBD methodology is where I firmly plant myself under the current economic backdrop. I use technical analysis to find ideal buying opportunities in conjunction with the tools for strength seen on IBD.
The goal of taking the short iron condor, which delivers a credit, is to allow time decay to work for us. We potentially watch the price action sit still while time decay (theta) increases our gains over time.
Options sellers are positioned to win in two ways. Either IBM stock does nothing, or Big Blue moves within the ranges relative to the strategy.
Dow Jones Leader IBM Eyes Buy Point
Key Chart Levels
The monthly resistance zone sits near 200. It sits at the top of a linear regression channel. Technical support sits near 180. These two levels give us the option strikes for our position .
With earnings behind us, we now expect the chart to range before breaking out. For that reason, we suggest a trade that uses time as the reason we hold the position. Also, consider these scenarios:
- IBM stock grinds higher or lower into our risk thresholds and we exit the trade.
- The stock stays in a range and we gain slowly over time.
- IBM stock grinds higher or lower into our profit thresholds and we exit the trade.
As with all trades, consider what you like about holding the position in the first place and consider your risk carefully.
Be patient and allow price action to move around a range of your stops.
Anne-Marie Baiynd is a 20-year veteran trader of stocks, options and futures and is the author of "The Trading Book: A Complete Solution to Mastering Technical Systems and Trading Psychology." She holds no positions in the investments she writes about for IBD. You can find her on Twitter and Stocktwits at @AnneMarieTrades
