Update – IBM: Watson What If

by CC January 26, 2018 2:08 pm • Trade Updates

Occasionally we like to go back to trades a play a bit of a “what if” game. One that caught my attention was a trade that was initially working in IBM that we updated with a simple roll up and out into its earnings event. The idea for the roll was to take most of the risk off the table while leaving the potential for more upside into the event. In this case the roll was the wrong one into the event as the stock sold off following the report (it’s still profitable, but as lost a good portion of its profits). But now with the stock creeping back up let’s revisit the trade for management purposes from here on out, as well as looking at what we could have done differently. First, here was the initial trade idea, from January 12th:

IBM ($164.30) Buy the Feb 165 / 175 call spread for $3.00
  • Buy 1 Feb 165 call for 4.15
  • Sell 1 Feb 175 call at 1.15

The stock ran up into earnings and just a few days later we updated with a roll, from Jan 18th:

Action: Sell to close IBM ($170) Feb 165 / 175 call spread at $5 for a $2 profit

-Selling 1 Feb 165 call at $8

-Buying to close 1 Feb 175 call for $3

And New Trade:

IBM ($170) Buy March 175 / 185 call spread for $2.30

-Buy to open 1 March 175 call for 3.50

-Sell to open 1 March 185 call at 1.20

Essentially, that roll took almost all the risk off the table but didn’t book the profits. It left a trade risking .30 that could make up to 9.70 if the stock was at or above 185 on March expiration. Now with the stock slightly lower than where the roll took place, at 167.25, the trade is worth about .75, now only a .45 profit.

As far as trade management there’s some time for this to play out, so probably no need to panic. If the stock were to get going above 170 this trade would be in good shape to make some decent money, and again, it’s almost a free look at this point.

But back to the what if?

Another roll we like to do with a profitable position is to take profits and turn the call spread into a calendar. This is the more aggressive reduction in deltas strategy. In this case it would have meant selling the Feb 165 calls at $8, then taking those profits and buying the March 175 calls for 3.50. That would have left a Feb/March 175 call calendar on, while taking 1.50 in the profits off the table. And that Feb/March 175 call calendar is also trading at .75 right now.

Obviously hindsight is 20/20. The reason we chose the call spread roll into March was the potential to stay aggressive in the stock for a big move higher on earnings, with almost no risk. The roll to a calendar has a very different profile, looking for a mild move higher on earnings, and then a continuation afterwards.

We feature both types of rolls on the site, but it’s good to look back and see how they do against eachother after the event. The key here is the calendar roll is essentially taking most off the table after an initial move, and leaving very few long deltas until the front leg expires. The roll to a call spread up and out keeps alot more deltas on the table, but the cost of that is not booking as much of the profits.