Considering Our Options – $KO April Call Fly

by CC April 22, 2015 3:16 pm • Commentary

Yesterday we made a bullish directional bet on Coke’s earnings into their earnings event. We used a structure who’s intention was to play for a move higher while risking as little premium as possible given the binary nature of the event. We also highlighted an alternative trade for those concerned about commissions on the the multi legged fly. Here was the trade and rationale and within that rationale is the alternative structure:  

TRADE – KO ($40.82) Buy to April 24th weekly 41/42/43 call butterfly for .20

-Buy 1 April 24th 41 call for .50

-Sell 2 April 24th 42 calls at .18 each of .36 total

-Buy 1 April 24th 43 calls for .06

Rationale: This offers a great risk/reward on a move to 42 and is the lowest premium outlay available to position for that. The problem with the trade, obviously, is commissions on small lots which can make total premium outlay from a percentage perspective worse for such a small width fly. E.g. -The 41/42 call spread has lesser commissions but at around .31 has a higher breakeven and worse risk/reward, risking .31 to make .69 vs risking .20 to make up to .80, and a wider range to the upside to achieve.  This sort of trade using weeklies has the potential to be binary which is one reason why I am looking for the lowest possible premium outlay.

I want to update our trade as well as check in on those alternative. First, on the fly. With KO at 41.40 this trade is now worth  about .35. Intrinsically it’s worth .40 and with only 2 more days until it expires that .05 of unrealized gains will go to parity fairly quickly. It’s about 50 deltas here but I’d start to think of it more like it’s 100 pretty soon. If you want to see Gamma in action watch the change to that position’s deltas from today until Friday. So as far as how to manage this position we’ll be keeping a fairly tight stop at our intrinsic level (41.20) and hope we see the stock creep up towards 42 in the next two days. The 41.20 stop basically assures us a profit or at least breakeven while playing for much more. (a gap overnight lower through that level would suck, but probably not a huge risk).

As far as the alternative, it is worth about .42 here, so a decent profit but it is at even more of a delta risk at about +65 here. Of course the intrisic stop is also closer at 41.31. I’d think of this the same was as the fly as far as management knowing that the margin of error is tighter from both a delta and a break-even perspective.