Options Trade of the Day: Straddling Ford at an Eight-Year High

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Ford Motor Company ( F ) has attracted quite a bit of attention lately, with the shares rallying more than 57% during the past year. This sharp rebound has pushed F into an area of long-term resistance near the $18 level. In fact, prior to today, the shares last traded north of $18 in May 2002.

Monthly F chart with 10-month moving average

This technical backdrop has brought quite a few options speculators out of the woodwork. Overall, F's put and call volume today has roughly tripled the stock's average daily trading volume, with some 21,000 puts and 77,800 calls changing hands. Looking to take advantage of either a breakout or a rejection at the $18 level, one options trader appears to have entered a rather large straddle on the security.

Specifically, a block of 5,000 March 18 calls traded for the ask price of $1.13, or $113 per contract, on the Chicago Board Options Exchange ( CBOE ) at 12:30 p.m. Eastern time. As you would expect with a straddle position, the other half of this trade crossed on F's March 18 put, where 5,000 contracts changed hands at the same time on the same exchange for the ask price of $1.04, or $104 per contract. By implementing this strategy, the trader needs F to move sharply by the time these options expire at the close of trading on Friday, March 18; direction doesn't matter.

F March 18 call and put volume

For those not familiar with this options strategy, a straddle is the simultaneous purchase or sale of an equal number of puts and calls on a given underlying stock with the same expiration and strike price. The straddle purchaser is looking for a large move by the stock, one that exceeds the focus strike by more than the amount of the premium paid for both options.

The Anatomy of a Ford Motor Company Straddle

In today's F straddle, the trader purchased 5,000 March 18 calls for $565,000 -- ($1.13 * 100) * 5,000 = $565,000. At the same time, the trader also purchased 5,000 March 18 puts for $520,000 -- ($1.04 * 100) * 5,000 = $520,000. The total outlay for this position would be $1,085,000 -- $520,000 + $565,000 = $1,085,000.

F straddle breakdown

There are two ways of determining the maximum profit on a straddle position. If F jumps higher, then the maximum profit is theoretically unlimited, as there is no cap to how high the shares can rally. If F plunges, the maximum profit is limited to the purchased strike minus the total debit paid. For this position, the maximum profit from a downside move is $15.83 -- 18 - 2.17 = $15.83 -- or $1,583 per pair of contracts.

There are also two breakeven points for this position. They are calculated by adding and subtracting the net debit to or from the focus strike. For the example, the breakevens are $20.17 -- 18 + 2.17 = $20.17 -- on the upside, and $15.83 -- 18 - 2.17 = $15.83 -- on the downside. Finally, the maximum loss is limited to the net debit paid upon entering the position. Below is a chart for a rough visual representation:

F straddle profit/loss chart

Implied Volatility

Traders should not be afraid of rising implied volatility following the initiation of a straddle position. An increase in implieds boosts the value of the purchased options, allowing the trader to collect a higher return by selling (to close) the position. At the time of the trade, implieds for the March 18 call were 33.82%, while the implied volatility for the March 18 put rested at 34.18%. For comparison, the stock's one-month historical volatility arrived at 16.07% as of the close of trading on Wednesday.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.

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This article appears in: Investing , Options

Referenced Stocks: CBOE , F

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