New Trade – $AAPL vs. $QQQ Cagematch

by Enis July 26, 2013 1:48 pm • Commentary

AAPL’s earnings move higher has taken the stock back above the $435 pivot level.  The bull/bear arguments are similar.  Bulls point to the capital return strategy, attractive valuation, and business stabilization, with potential second-half catalysts (product refresh, China Mobile agreement, better seasonality into the end of the year).  Bears point to a saturated high-end smartphone market globally, cannibalization of their own product line, and waning brand loyalty, as well as no significant earnings growth until the second half of 2014.

This push/pull has actually resulted in a flat stock price for AAPL ever since its January earnings miss.  So the stock has been flat for 6 months.  Given that the earnings catalyst is out of the way, I am still of the opinion that AAPL stock is likely to be rangebound until the September product announcements at the least.

But I am wary of simply selling volatility.  In quiet markets, selling volatility is usually the better strategy.  Of course, it is in quiet markets that volatility is priced much more cheaply than in active markets.  Not surprisingly, the market adjusts the risk/reward against you enough that simply selling premium is a tough proposition.  So the risk/reward in selling AAPL vol is not attractive on its own.

A spread trade against QQQ, the Nasdaq 100 ETF, is more appealing to me for 2 reasons:

1)  The other technology giants in QQQ reported weak earnings so far, with the exception of QCOM (MSFT, GOOG, AMZN, INTC – AMZN is up, but that’s just AMZN’s style).  AAPL’s earnings were no blockbuster, but on a relative basis, it was a stronger report than other large cap peers.

2)  AAPL has significantly underperformed in 2013.  Since July began, we’ve seen some hints of leaders underperforming and laggards outperforming (GDX and AAPL are two examples).  From a positioning perspective, I like the chances of AAPL outperforming QQQ over the next month.

Finally, this is a trade where we want to collect a net credit if nothing happens, because overall market volatility has been so low.  Here’s the pair trade (I did both together, but would not do either on its own):


TRADE: AAPL ($439.50) Sold the Aug16th 430/420 Put Spread at $2.90

-Sold 1 Aug16th 430 Put at 5.75

-Bought 1 Aug16th 420 Put for 2.85

Break-Even on Aug16th Expiration:

Profits:  Profits up to $2.90 when stock between 427.10 and 430 on Aug16th expiry, with max profit of $2.90 at 430 or above

Losses:  Up to $7.10 between 420 and 427.10 on Aug16th expiry, with max loss of 7.10 at 420 or below.

TRADE: QQQ ($75.09) Bought the Aug16th 74/71 Put Spread for $0.37

-Bought 6 Aug16th 74 Put for 0.46

-Sold 6 Aug16th 71 Put for 0.09

Break-Even on Aug16th Expiration:

Profits:  Profits up to $2.63 when stock between 71 and 73.63 on Aug16th expiry, with max profit of $2.63 at 71 or below

Losses:  Up to $0.37 between 73.63 and 74 on Aug16th expiry, with max loss of $0.37 at 74 or above.

Trade Rationale:  I did the QQQ trade at 6 times the size as the AAPL trade (so about the same notional).  It ends up being a slight credit in total. ($2.90 credit in AAPL vs. paying $2.22 total in QQQ).


Over the next 3 weeks, we have an action packed macro calendar, as I laid out in today’s Macro Wrap.  So there are potential catalysts for a large move in the stock indices.  On the other hand, AAPL has not been very correlated to the macro environment this year, and its 50 day moving average around $429 could be important support going forward after its earnings gap.  More importantly, I think it’s unlikely that AAPL goes down without QQQ also going down, and I see it as even more unlikely that AAPL goes down while QQQ goes up.  I like the risk/reward of collecting a small credit and anticipating AAPL outperforming QQQ.

The most likely scenario on this trade is that nothing happens and both structures expire worthless. However, it wouldn’t take much weakness in the overall market for the QQQ structure to begin to be in play, while AAPL at that point would be looking to hold these levels. The good thing about the AAPL side of the structure is that it is very unlikely that AAPL will gap below the 430 level. If the stock was to test that level it would mostl likely be a grind lower with the market. Because of that, it would afford us the opportunity to watch how AAPL reacted at the 430 level and if it looked like a break was possible we’d be able to cover that side of the trade for little or no loss as we get closer and closer to expiration which is only 3 weeks away.