I am not one to catch the proverbial falling knive. Last week, Yelp Inc (NYSE: YELP ) fell off a cliff on a badly received earnings report. This week the fall continues as buyers are not yet stepping up to support the stock. This could be an opportunity to carefully catch this popular resource site.
Source: Linny Heng via Flickr
Fundamentally, I can't completely vouch for Yelp's operations. All I know is that my friends who use it are die-hard fanatics. They rarely try anything new without first checking it out on Yelp.
I do have to admit that I used it last time a pipe burst on a weekend and I needed a plumber stat.
Click to Enlarge Technically, this latest dip in YELP stock is almost as big as the entire month-long correction it had last October. So as far as falling knives, this one could turn out to be one with a two-inch handle and a 10-inch blade - meaning it could cost me a few fingers trying to go long it so soon.
Furthermore, I do have to recognize the open gaps that still lay below current levels that, if filled, could bring YELP down to the low-$32-per-share area.
Yelp is not a cheap stock, so instead of buying the stock itself, I will only risk a little through YELP options for a chance to profit on the bounce.
YELP Stock Trade
The Trade: Buy the May $36/$37 debit call spread. This is a bullish trade for which I pay 40 cents per contract to open. If YELP stock bounces, then I stand to double my money. Bulls should eventually step in to fill the bad gap it set last week.
To mitigate my risk, I will sell premium against downside risk but not for a few days. Waiting makes me less reckless in my early entry.
The Bank (Optional and Delayed): Sell the May $31/$30 credit put spread. This is a bullish trade for which I collect 35 cents per contract to open. This trade can yield me about 50% on my risk with a 75% theoretical chance of success. Ideally, I need YELP to stay above my sold strike to win.
If the stock price stays above my sold put strike then any premium I recoup from selling the debit call spread would be pure profit. In essence, I don't need YELP to rally much if I take both trades. I simply need it to stay above my sold put spread.
An active trader could choose to sell the Mar $32/$31 credit put spread instead. Here my yield is about 16% on risk but with less time on the clock. The buffer is smaller, so it could require some maintenance.
Nicolas Chahine is the managing director of SellSpreads.com . As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @racernic and stocktwits at @racernic .
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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.