Tesla (TSLA) has been declining since early April. Plus, the stock has slumped below the 21-, 50- and 200-day moving averages. Let’s look at how to set up a bearish option income trade, called a bear call spread.
A bear call spread in Tesla stock involves selling an out-of-the-money call option and buying a further out-of-the-money call.
The strategy can be profitable if the stock trades lower, sideways, and even if it trades slightly higher — as long as it stays below the short call at expiry.
Setting Up The Bear Call Spread In Tesla Stock
On Tesla stock, a June expiry bear call spread could be set up using the 975 strike as the short call and the 980 strike as the long call.
On Tuesday, that spread traded for around $1.00. If executed at that price, the maximum profit on this trade in Tesla would be $100 per contract with a maximum risk of $400.
The spread will achieve the maximum profit if Tesla stock closes below 975 on June 17, in which case the entire spread would expire worthless. The trader keeps the $100 option premium received. The maximum loss will occur if TSLA closes above 980 on June 17. In this case, the premium seller lose $400 on the trade.
While some option trades have the risk of unlimited losses, a bear call spread is a risk-defined strategy. So you always know the worst-case scenario in advance.
Set a stop loss if TSLA trades above 900, or if the spread value rises from $1.00 to $2.00. As this is a bearish position, traders thinking Tesla stock could move higher from here should not enter this trade.
According to IBD Stock Checkup, Tesla ranks No. 1 in its group. It holds a Composite Rating of 90, an EPS Rating of 78 and a Relative Strength Rating of 79.
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
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