Apple is currently trading with very low implied volatility, which means options on the stock are cheap compared with the last 12 months. So it's a good time to look at a breakout trade such as a long strangle for this tech titan.
Investors construct a long strangle through an out-of-the-money call and an out-of-the-money put. The trade aims to make a profit from a big move in either direction by the underlying stock, or from a rise in volatility.
Buying a long strangle is cheaper than buying a long straddle, but suffers from time decay. That means the options lose a little bit of value with each day that passes without a big move in the stock.
With a long strangle, the further out in time you place the trade, the slower the time decay. But the options are more expensive and require more capital.
How The Long Strangle Works
For Apple stock, investors can place a long strangle by buying a 240-strike call and a 180-strike put both with a Nov. 21 expiration. The call is trading around $4.10 and the put around $4.15.
When we add the two together, the total cost of the trade would be around $8.25 per share or $825 for a contract of 100 shares. This is the total amount of risk in the trade and the maximum that could be lost.
Calculate break-even prices by taking the strike price and both add and subtract the cost of the strangle. That gives us break-even prices of 171.75 and 248.25. But profits are possible with a smaller move if that comes earlier in the trade. For example, the estimated break-even prices in mid-August are around 187 and 225.
Changes to implied volatility will have a big impact on this trade and the interim breakeven prices. So it's important to have a solid understanding of volatility before placing a trade like this.
The ideal scenario is a big move in either direction within the first week or two of the trade.
Worst Case For Apple Stock — A Stable Price
The worst-case scenario with this Apple long strangle would be a stable stock price. That would see the call and put slowly lose value each day. For a long strangle a stop loss at around 20% of capital at risk works. That means an exit if the spread loses $160 in value. You could also set a profit target of around 40%, so a spread value of 11.50 could be a good time to exit. If a big move in Apple happens sooner, it might be worth locking in a smaller gain quicker rather than waiting for the time decay to slowly take it away.
It's best not to hold the trade any longer than mid-September. The time decay will really start kicking in as the expiration approaches.
According to Investor's Business Daily's IBD Stock Checkup, Apple stock ranks third in its group. It has a Composite Rating of 62, an Earnings Per Share Rating of 85 and a Relative Strength Rating of 37.
It's important to remember that options are risky and investors can lose 100% of their investment.
This article is for education purposes only and not a trade recommendation. Remember to always do your own due diligence and consult your financial advisor before making any investment decisions.
Gavin McMaster has a masters in applied finance and investment. He specializes in income trading using options, and is conservative in his style. He also believes patience in waiting for the best setups is the key to successful trading. Follow him on X/Twitter at @OptiontradinIQ.
