Netflix stock has dropped in recent weeks and is struggling to get back above the 50-day moving average. So, let's look at a strategy in NFLX stock with no risk on the upside and a healthy profit zone on the downside.
NFLX Stock Today
The strategy has an unusual name: a broken wing butterfly. And it uses put options because the strikes will all below the stock price. The benefit? This helps to reduce assignment risk.
With a regular butterfly option trade, the wings get placed an equal distance from the short strike. But with a broken wing butterfly we leave a larger gap on a particular side.
This results in less risk on one side and more risk on the opposite side.
Netflix has made a bullish start in 2023, despite losing significant ground in February. Shares, trading near 321 on Wednesday, are now hovering below the 50-day moving average. Yet NFLX stock still holds a 9% advance year to date. The Composite Rating of 90 is solid.
Let's take a look at how a broken wing butterfly trade might be set up on NFLX stock.
- Buy 1 April 21-expiring put with a 240 strike price @ 2.10
- Sell 2 April 21, 280 puts @ 7.40
- Buy 1 April 21, 300 put @ 12.70
Notice that the put option with the upper strike price for this trade in NFLX stock lies 20 points away from the middle put option with a 280 strike. Meanwhile, the lower put option stands 40 points away.
This broken wing butterfly trade can be placed for no cost; therefore, a trader bears no risk on the upside.
The worst that can happen? All the puts expire worthless. This leaves the trader with a flat return in NFLX stock.
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Risk Vs. Reward
On the downside, calculate the maximum loss by taking the width between the middle and upper strikes (20), multiplied by 100, less the premium paid (if any). That gives us a calculation of 20 x 100 — 0 = $2,000.
So you can calculate the maximum gain as follows: 20 x 100 + 0 = $2,000.
The ideal scenario for the trade? NFLX stock stays flat initially, then slowly drifts lower to close around 280 at expiration. The total profit zone is between 260 and 300.
As the trade starts with delta of 2, it has a slight bullish bias to start. Yet that bias will flip to a negative delta closer to expiry if the stock is still above 300.
In terms of risk management, I would set a stop loss of 20% of the capital at risk, or if NFLX broke below 260.
Tesla Trade Review
Meanwhile, this Tesla iron condor trade has achieved a nice profit and can be closed early.
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
