On July 30th Caterpillar (CAT) reported better than expected second quarter results and the stock initially popped. It then preceded to give up those gains intra-day. It had a certain feel like there was more of a reversal to come. Here’s what Dan wrote at the time:
So what’s the trade? The market has a similar sort of feel to the way we headed in August 2018 where U.S. interest rate policy (the course and pace of rate increases) was of particular investor focus, as was China’s Central Bank’s support of their currency vs the U.S. Dollar, now with the backdrop of a trade war with China. U.S. exporters could be the whipping boys until there is a resolution, which I would not expect to see with too much time prior to the mid-terms as the Chinese know they have leverage.
If you are inclined to play for a breakdown below $140 and a possible gap fill in the next 8 weeks with defined risk, consider the following bearish trade idea:
CAT ($144) Buy Sept 140 / 120 / 100 Put Butterfly for $3
-Buy to open 1 Sept 140 put for 3.80
-Sell to open 2 Sept 120 puts at 45 cents each or 90 cents total
-Buy to open 1 Sept 100 put for 10 cents
At the time, CAT was 144. It is now nearly $10 lower and that is a good time to check back in on the trade idea and see what should be done and what we should watch for. With the stock $135 this butterfly is now in the money and worth nearly $6, about a double from its entry point. Intrinsically it is worth about $5 (140 strike minus current stock price). It of course can be worth alot more if the stock continues lower. But if the stock were to stay here or go higher it would be worth less.
From a chart technical standpoint the stock is quickly approaching a make or break support level around $133. A break below that level and a bit of an air pocket lurks:
So from a management standpoint I think that level is one to look for. If the stock goes lower but bounces above $133 it may make sense to take profits at some point. A break below that level and patience will be rewarded as this trade could be worth much much more down to $120 in the stock. On the upside a tight leash is in order if the stock bounces and puts profits at risk. The breakeven on this trade is $137 so we don’t want to allow the stock to get much higher than that should it bounce.