Broadcom is due to report earnings on Thursday after the market close and the options market is pricing in a 7.8% move in either direction for the stock. Interestingly, that's the exact same expected move that Nvidia was showing last week.
Last week, Anne-Marie Baiynd wrote on how to trade a long-term covered call on Broadcom stock for Investor's Business Daily. Now, let's look at a standard bull put spread trade over earnings, which is shorter-term and higher-risk, higher reward.
It's best to structure a bull put spread that fits the view that one, Broadcom stock will stay within the expected range, and two, the response to the earnings report is likely to be positive. Further, Broadcom stock has a history of performing well during earnings in recent years, with only a couple of large declines occurring.
Taking an at-the-money put and call for the June 6 expiration, we can see that the expected range is 7.8%. Now that we know the expected range, let's find a bull put spread that has a break-even price roughly 7.8% below the stock price.
Possible Return Of More Than 20%
Selling 100 shares of the June 6, 222.50-strike put and buying the 217.50 put would create a bull put spread. This spread is trading for around 85 cents a share, based on recent action. That means a trader selling this spread would receive $85 in option premiums per set of contracts. The maximum risk is $415.
That represents a 20.5% return on risk between now and the end of the week if Broadcom stock remains above 222.50. If Broadcom stock closes below 217.50 on the expiration date the trade loses the full $415. The break-even point for the bull put spread is 221.65. That is calculated as 222.50 less the 85-cent option premium per contract.
There is little room for adjustment with short-term trades such as this held over earnings. A 20% return in a few days would be nice, but the possibility of losing 100% is also very real. As such, this style of trade is only for traders with a high-risk tolerance and a bullish outlook for the stock.
If Broadcom does make a big move lower, long-term investors can potentially take assignment at 222.50 on the short puts. Then they can begin selling covered calls against the position.
Ratings For Broadcom Stock
According to the IBD Stock Checkup, Broadcom stock ranks first in its group and has a Composite Rating of 99, an EPS Rating of 98 and a Relative Strength Rating of 95.
Please 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.
