Home Depot is sitting right between the 50- and 200-day moving averages and is set to report earnings on Tuesday.
Home Depot stock has stayed within the expected range following three of the last six earnings announcements.
Traders who think HD stock will not move too much following this earnings report could look at an iron condor trade. The company will announce results Tuesday before the stock market opens.
Let's look at an example of how we might set up an iron condor over earnings.
As a reminder, an iron condor is a combination of a bull put spread and a bear call spread.
The idea with the trade is to profit from time decay while expecting that the stock will not move too much in either direction.
First, we take the bull put spread. Using the Aug. 19 expiry, we could sell the 290 put and buy the 285 put. That spread could be sold yesterday for around $0.50 per share.
The 290 strike roughly coincides with the 50-day moving average.
Then comes the bear call spread, which could be placed by selling the 330 call and buying the 335 call. This spread could be sold Wednesday for around $0.55.
In total, the iron condor will generate around $1.05 per share per contract, or $105 of premium.
The profit zone ranges between 288.95 and 331.05. This can be calculated by taking the short strikes and adding or subtracting the premium received.
Maximum Risk For Option Trade
Because both spreads are $5 wide, the maximum risk in the trade is 5-1.05 x 100 = $395.
Therefore, if we take the premium ($105) divided by the maximum risk ($395), this iron condor trade has the potential to return 26.6%.
If price action stabilizes, then iron condors work well. However, if Home Depot stock makes a bigger than expected move, the trade will suffer a loss.
Trades held over earnings allow little room for adjusting, so they can be a bit hit or miss. HD has stayed within the expected range following all six of the most recent earnings releases. Although, as we know, past performance doesn't guarantee future performance.
According to the IBD Stock Checkup, Home Depot stock is ranked No. 3 in its group and has a Composite Rating of 72, an EPS Rating of 91 and a Relative Strength Rating of 56.
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, 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
