On Friday, I decided it was time to straddle Best Buy’s Stock (Symbol: BBY). For those of you who are not aware of what a straddle is, a straddle is taking a position both up and down. At first this might seem counter productive, but a well executed straddle can be very lucrative. Let me first tell you exactly what position I took and how I hope it will pan on.
I purchased two options:
BBY – Jan 19th, 2013 – $23 Call – Cost $2.38 each, Quantity 2
BBY – Jan 18th, 2014 – $20 Put – Cost $3.89 each, Quantity 3
The stock was trading for $22.43 at the time of purchase. Now the question quickly becomes, why in the world would you want to take Best Buy both ways? Because my gut feeling is that the stock is doomed, but It is possible for a “dead cat bounce” (unsupported upward movement before ultimately falling). This stock might be oversold believe it or not. Best Buy’s stock was trading for roughly $30 a share at the beginning of the year and over $40 the year before that. Now when I say I think the stock might have a “dead cat bounce” in it, I’m not thinking its going to shoot up $10 a share, I’m thinking more like $3-6 (complete guess).
I should also disclose that my Call option is only for 9 months, while my Put option is for 1 year 9 months. It is a straddle, but it’s ultimately I’m more short than long. So how will I profit? Hopefully a visual ad of this will help. Below shows the two options and where they each become profitable along with their expiration dates.
I am hoping that the stock bounces up before the 2013 and ultimately tanks in 2014. A made a sense hypothetical result picture below. Now these numbers are just to illustrate a point. I have named the chart “perfect world result,” because the odds of this happen are very slim.
If the “Perfect World Result” happened, I would have purchased 200 shares for $23 and sold for them for $34 a share (profit of $2200, that’s if I liquidated the shares immediately, remember I own 2 options). I later would also have purchased 300 shares for $11 and immediately sold them for $20 a share (profit of $2700, I own 3 options). That would be $4,900 minus my cost $1254 + commissions (roughly $1300). This would be a 276% return on my money. Now the chances of this happen are very slim, but this example is just to illustrate how this straddle works.
Possible Other Results:
- Stock goes to $11 a share by 2014. ——————-Result: +$1446, 115% return.
- Stock goes to $15 a share by 2014.——————Result: +$246, 19.6% return.
- Stock goes to $35 a share by 2013. ——————Result: +$1146, 91.3% return.
- Stock goes to $30 a share by 2013. ——————Result: +$146, 11.6% return.
- Stock never leaves the $20 to $23———————Result: Options are worthless. 100% loss.
- Stock finishes at $18 a share. –————————–Result: $-654, 52.15% loss.