Carnival stock broke out to new highs this past week, trading at roughly 32.50. With shares of the cruise line showing incredible strength, let's explore using options to create a synthetic long exposure for a fraction of the cost of buying shares outright.
The strategy is constructed by selling an out-of-the-money put and buying an out-of-the-money call.
Here's how we might set this up on Carnival stock.
Assuming investors wanted a bullish exposure via a synthetic long, they could buy a Dec. 19-expiration call at 34 for around $2.50 apiece and then finance that purchase by selling a Dec. 19 put with a 32 strike price for around $2.55. Therefore, a December split strike synthetic trade would result in a net credit of around 5 cents a share, or $5 for a 100-share contract.
As the name suggests, this is a synthetic position, and the trader has a similar exposure to owning 100 shares of the underlying stock. That exposure would cost about $3,250 if the investor bought 100 shares. So, this is effectively a leveraged position and may not be appropriate for every trader.
Mirroring Stock Ownership
While this trade generates a small credit, the risk profile mirrors stock ownership. If Carnival falls to zero, the maximum loss approaches $3,200, similar to owning shares outright, but with far less capital initially invested.
The margin requirement for the short put adds complexity, as brokers may require additional collateral beyond the small credit received.
In this example, the total position delta is around 90, giving the trader an exposure equivalent to being long 90 shares of Carnival stock.
Of course, leverage is a double-edged sword, and a falling stock price will magnify losses. At expiration, we have a few scenarios:
- If the stock is between 32 and 34, the profit is equal to the credit received of $5.
- Profits are unlimited above a price of 34.
- Below 32, losses will accrue at the same rate as stock ownership.
Split-strike synthetics are an advanced option trade, so make sure you understand how they work before considering this trade.
Carnival Stock: Earnings Due In Late September
Carnival is due to report earnings in late September, so this trade would have exposure to earnings if held through that date.
According to IBD Stock Checkup, Carnival stock ranks second in its group. Investor's Business Daily gives it a Composite Rating of 97, an EPS Rating of 82, and a Relative Strength Rating of 93.
In late June, Carnival reported stronger-than-expected second-quarter results and raised its full-year forecast. The cruise line posted adjusted earnings of 35 cents a share, beating analyst estimates for 24 cents. Revenue reached a record $6.3 billion, slightly above the $6.2 billion forecast.
Net income jumped to $565 million, a sharp increase from $92 million a year earlier, reflecting strong demand and operational momentum across all of Carnival's brands.
Carnival also raised its outlook on earnings before interest, taxes, depreciation and amortization to $6.9 billion, up from $6.7 billion.
Cruise Demand Continues To Rebound
With cruise demand continuing to rebound post-pandemic, higher ticket prices and fuller ships are helping push profitability closer to pre-Covid levels.
With Carnival's strong technical breakout and solid fundamentals, the split-strike synthetic offers leveraged upside exposure while minimizing initial capital requirements.
However, traders must respect the strategy's complexity and full risk potential.
It's important to remember that options are risky and investors can lose 100% of their investment.
Gavin McMaster is founder and operator of Options Trading IQ, a website offering instruction on how to buy and sell options. Follow him on X/Twitter at @OptiontradinIQ.
