Goldman Sachs - Using Options For A Contrarian Play
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Goldman Sachs: Using Options For A Contrarian Play

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Guest post by Gavin McMaster – Optionstradingiq.com

Goldman Sachs is one of the biggest investment banks and investment firms in the world and a leader in their industry.

However, their recent earnings announcement was less than stellar. The investing giant posted earnings per share of $3.11 which was above the estimate of $2.83 but well down on the $4.69 from the prior quarter. Estimates for Q2 are coming in at $3.08 per share.

Revenue came in at $8.74 billion which was down 12% from the prior quarter and 1% from the same quarter last year.

Despite the drop in revenue and earnings, the stock is holding up pretty well.

Perhaps this is in part because the decline in earnings has not been nearly as bad as some of Goldman’s peers. JPMorgan Chase saw net income declined 69% while Wells Fargo dropped 89%

Trading revenue for the firm was a very strong point in the earnings release and that should bode well for the company going forward given that a large portion of their profits come from their trading desks.

The high volatility we have seen lately leads to higher trading volumes which should boost revenue into Q2.

The stock has traded flat since the earnings announcement and I view that as a positive given there was such a large decline in earnings per share.

Looking at the chart, the stock is holding above the 20-day moving average which is now sloping higher and we’re starting to see some accumulation in the stock which is generally a very good sign.

On the downside, GS may find it hard to break through the declining moving average which is just above at around $189.

Implied volatility is also high at around 52%. Not quite as high as it was a few weeks ago, but still a lot higher than the 20-30% at which it typically trades.

That means it’s a great time to be a seller of options on GS. That coupled with the potential bullish action makes it a great candidate for a bull put spread.

A bull put spread is a defined risk option strategy that profits if the stock closes above the short strike at expiry.

To execute a bull put spread an investor would sell an out-of-the-money put and then but a further out-of-the-money put.

With GS closing at $177.04 on Thursday, and the 20-day moving average currently around $160, placing the bull put spread below $160 makes sense.

Selling a June 19th $150 put and buying a $145 put would generate $85 in premium.

This trade offers a 20.48% return potential in just over 2 months, provided GS is above $150 at expiration.

The maximum profit on the trade would be $85 per contract with a maximum risk of $415.

The spread would achieve the maximum profit if GS closes above $150 on June 19th in which case the entire spread would expire worthless allowing the premium seller to keep the $85 option premium.

The maximum loss would occur if GS closes below $145 on June 19th which would see the premium seller lose $415 on the trade.options volume contracts

The breakeven point for the Bull Put Spread is $149.15 which is calculated as $150 less the $0.85 option premium per contract.

SET A STOP LOSS AT THESE LEVELS

Looking at the chart above, a prudent stop loss could be placed if the stock breaks back below the 20-day moving average, currently at $160

Sticking to this stop loss level will help avoid large losses if the trade goes south.

IN SUMMARY

Goldman Sachs as a world leader in their field should continue to be a strong investment despite the recent decline in earnings.

Bull put spreads are a great way to generate an income from a stock provided it doesn’t decline too much.

A June $150 – $145 bull put spread has the potential to return a 20.48% profit is the spread expires worthless.

Thanks for reading.

Gavin McMaster – Options Trading IQ

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. Gavin has written 8 books on options trading and you can find more from him at www.optionstradingiq.com

 

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