Lockheed Martin stock is trading below its 200-day moving average and just took a troubling turn. It's the sort of situation that lends itself to option trades that benefit from further downside in the stock price.
The aerospace giant on Wednesday found itself in what is known as a bearish engulfing candle. Such a maneuver starts when a stock chart shows bullish action during an up session, as Lockheed Martin did Tuesday.
Then on Wednesday, the price range formed a wider spread than Tuesday's action and ended the day lower. On a chart that uses candle-like bars to illustrate price ranges, the Wednesday move appears to engulf the Tuesday trades. It is a sign of weakness in the stock.
Lockheed Martin stock also shows vulnerability in other areas. According to Investor's Business Daily's IBD Stock Checkup, Lockheed Martin ranks No. 38 in its group. Further, IBD gives it a Composite Rating of 76, an Earnings Per Share Rating of 73 and a Relative Strength Rating of 50.
How A Bear Put Spread Might Help
That's why a move known as a bear put spread may come in handy. The move works as a debit spread, meaning investors need to pay the premium in order to open the trade.
On Lockheed Martin, a bear put spread could be set up using the 450 strike as the long put and the 445 strike as the short put for a July 18 expiration. Further, this trade would cost around $130 per contract with a maximum potential gain of $370.
To achieve the maximum profit, this trade would need Lockheed Martin stock to drop another 6.4% between now and expiration on July 18.
The break-even point for the bear put spread comes in at 448.70, or 450 less the $1.30 option premium per contract. If Lockheed Martin stock drops early in the trade it also may be possible to make a profit at slightly higher prices.
At expiration, if Lockheed Martin stock is trading above 450, the entire spread would expire worthless, and the trade would lose 100% or $130.
Lockheed Martin Stock: Limiting Losses
A stop loss could be set at 50% of the premium paid. In this case, the loss would be around $65.
Investors who think Lockheed Martin stock could move higher from here should not enter this trade. The trade starts with a delta of -4. That means the exposure is roughly equivalent to being short four shares of Lockheed Martin stock.
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.
