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The Elegant Solution for Risk & Leverage - INTC

Updated: Sep 2, 2020

The following trade frame is an example for educational purpose only. Please read the Disclaimer at the bottom.


Last month, Intel plunged 18% after saying its next-generation chips will come out 6 months later than expected.


Let's look at the weekly chart:

It's in the harsh winter phase, reaching the 200ma, at the point where most volume took place.


And what can we see from the daily charts?

INTC is around the March lows, and just had a SSC and a Psar flip.


So now lets compare two ways to swing trade it. Lets assume we have 5k in our account.

  1. Buying 200 shares for 9730$ (using leverage of 4730$ loan from the broker).

  2. Buying 2 options Call 47.5 for 30 days, which cost 2.2$ (total of 220*2 = 440$).

First lets look at buying the underlying (200 shares).

If the stock will go up 25% to 60.8, we will profit 2432$ which is 48% of our base capital.

However if it will go down 25% to 36.4, we will lose 2432$ which is a 48% loss of our base capital.

Thus, although the leverage can boost are gains, it can just as easily ruin our account.


And there are other risks that are hidden, for example a flash crash where INTC crash down for a few seconds and the broker sells our position because we use leverage and don't have enough funds to support the sudden drop, and then a few seconds later, the price returns to normal, but without us.


And what about portfolio diversification?

We can only take this one trade at this size, and may miss other opportunities.


Now let's look at buying the 2 slightly ITM Call 47.5 to 1 month options:

The cost for buying them is only 8.8% (440/5000) of our capital, and under no circumstances, we are going to lose more than that.

The 2 Calls give us the right for the next 30 days to buy 200 shares of INTC for 47.5, but if the price will be under the strike then we don't have to exercise them.

Our break-even point is at 49.7 (47.5 strike + 2.2 premium paid) comparing to 48.65, if we buy the underlying directly. So we give up a profit of 2.1% (49.7/48.65) but now we have a hard stop at 47.5.


If INTC will go up 25% to 60.8 the calls will be worth 13.3$ (on expiration date - before that, if there is still more time, they will be worth more). Meaning 11.1$ profit per option, which is 2220$ profit (44% on our initial 5K capital). That is almost like the 48% we would make by buying the underlying directly.


If INTC will go down 25%, we will lose all the premium paid (8.8% at expiration, and less before that), which is only 440$ loss instead of losing 2432$ by trading the underlying directly. (8.8% instead of 48% loss !!!)


As for stops and recovery, even if the market will go under 47.5 we don't need to take a stop. That gives us the possibility to recover. For example if INTC will go down to 42 and then up to 50, we will still be in the trade and could turn it to a winning trade. (the same is in the case of flash crash, where the broker won't close our position).


By using only 8.8% of our capital, we can also take other opportunities in other instruments and diversify our portfolio.


If you are more conservative with your risk tolerance, and avoid leverage at all in your trading, then compare risking 100% of your capital (5k) to buying only 1 option for 4.4% (220$).


The following conclusion is inevitable:

Understanding how to trade options and adding them to your swing trading toolkit, can reduce your risk and allow you to maximize your capital efficiency at the same time.



Sep 2nd follow up:


Boom !!! and off it goes:



1. Locking in turbo spread with puts. (cost 4K, payback 6-9k).

2. NL+D42 on Sep18 calls. (cost 3.1k , min payback 3.5K + 1K for every point over 51 for 2 weeks).

3. Let it run - Oct call 50. (+1R PS).



I guess people are still going to use computers :) (ken's quote).

Go Intel...





Disclaimer

We are not an investment advisory services, nor are we registered investment advisors or broker-dealers and do not purport to tell or suggest which securities customers should buy or sell for themselves. Customers should always check with their licensed financial advisor and their tax advisor to determine the suitability of any investment.

It should not be assumed that the methods, techniques, or indicators presented in this example will be profitable or that they will not result in losses. Past results are not necessarily indicative of future results. Examples presented on these sites are for educational purposes only. These set-ups are not solicitations of any order to buy or sell. We, and all affiliates assume no responsibility for your trading results. There is a high degree of risk in trading.

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