Another trade adjustment opportunity – Bear Call

Underlying Stock – UPS (United Parcel Service)

Strategy – Bear Call (Credit) Spread

The strategy involves selling an Out of the Money Call Option of an underlying stock and buying further out (most often the next strike price) less expensive Out of the Money Call Option for protection. These selling and buying different strike price call options creates a credit and that’s the maximum profit for the trade if successful. Maximum loss will be the difference between sold and bought call option strike prices.

Outlook and Action

Prices bounced back from upper Bollinger band on Friday 13 October and between 12 & 13 October it formed a “Bearish Engulfing” candlestick pattern. Same day a “Sell Signal” flashed with my trading system, indicating prices are ready to have short term pull back. I waited next trading day which is Monday 16 October to follow through the signal day and as it did, took the trade. Strike prices were outside the upper Bollinger band and nearly at the recent high. Recent high was on 13 October at $120.11 and my sold strike price were at $120.00. Red flag for this trade was that the strike prices were not well above the recent high and recently prices were making higher highs and in a uptrend. That bearish engulfing pattern convinced me to take the trade. It was weekly option, expiring Friday 20 October.

Capital required to do this trade was $2000 and have received $0.14 credit per share. Means got paid upfront $118.05 after paying commission for the trade and that’s the profit which turns out to be 5.9% return on the capital invested in 5 days.  As long as prices don’t hit the sold strike price by the expiration date (Friday 20 October closing price), these contracts will be worthless and I get to keep the money I received. Below is the calculation.

Managing the trade

Prices found support on Wednesday 18 Oct and bounced back up, formed bullish “Inverted Hammer” candlestick pattern. Though that wasn’t much worry for the “Bear Call” spread trade, worry came next day when it surged strongly and moved above the 20 day moving average. A “Buy Signal Day” also appeared in my trading system and that’s when I strongly felt that I needed to manage this trade. Took below steps –

1. Bought the “Bear Call” spread back at $0.10 per share on Thursday 19 October. Total cost (10 x 100 x $0.10) + $21.95 commission = $121.95

So, lost $3.90 for the spread trade ($118.05 – $121.95).

2. When prices moved 0.75% above the moving average on Thursday 19 October, I bought  two call option with $115 strike price December expiration for $5.49 per share. Sold those call option on Monday 23 October for $6.10 per share. Total profit $105.10 after paying all commission.

If I would have hold the credit spread, I would have lost money (at least about $700), but I managed the trade and kept $101.20 profit ($105.10 – $3.90 loss from credit spread).

Meant to be making 5.9% profit on capital invested when initially took the trade. The trade didn’t go as per the plan, managed to manage it and ended up making 5.06% on the initial capital investment.

Here is the entire transaction: