Netflix rocketed higher Wednesday following earnings and closed up 10.7% in massive volume. However, NFLX could struggle to get back above 560 in the short term. So, traders who think Netflix stock will not rally too much more from here over the next month could look at a bear call spread.
Netflix shares on Wednesday reached as high as 562.50. On Thursday, the stock gained more ground but did not venture above the prior session's high.
To review, a bear call spread involves selling an out-of-the-money call option, then buying a further out-of-the-money call.
Netflix Stock: Trade Setup
The strategy can score profits if the stock trades lower, sideways or even if it trades slightly higher. The key? It must stay below the short call at expiry.
A Feb. 16-expiration bear call spread on Netflix stock using the 590-595 strike prices can be sold for around $0.65 per set of option contracts, based on recent trading. So in this case, sell the call option with a 590 strike price, then buy the 595 call.
Traders selling the spread in Netflix stock would receive $65 in option premium, and that's the maximum possible gain. The maximum loss would be $435, or the width of the two call option strikes minus the premium received, multiplied by 100.
The spread will achieve the maximum profit if Netflix stock closes below 590 on Feb. 16, in which case the entire spread would expire worthless. This would allow the trader to keep the $65 option premium.
Big Picture: Netflix Soars Amid Mixed Close; S&P 500's Rare Move
Risk Vs. Reward
The maximum loss will occur if NFLX closes above 595 on Feb. 16, which would see the premium seller lose $435 on the trade.
While some option trades have the risk of unlimited losses, a bear call spread is a risk-defined strategy. You always know the worst-case scenario in advance.
A stop loss could be set if Netflix stock trades above 570, or if the spread value rises from $0.65 to $1.30.
As this is a bearish position, those who think NFLX stock could move higher from here should not enter this trade. The position starts with a delta of -5, meaning it is roughly equivalent to being short five shares of NFLX stock.
According to IBD Stock Checkup, Netflix stock is ranked No. 1 in its group. It has a Composite Rating of 99, an EPS Rating of 98 and a Relative Strength Rating of 93.
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
