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Well, when we said this morning to take our calls off the table we certainly weren’t expecting this kind of carnage (although I did actually use the word “crisis” to describe the potential action).

This is a great chance to get the Morgan Stanley (NYSE:MS) $70 puts ahead of earnings for $1.30 (I have them), along with the Goldman Sachs Group Inc. (NYSE:GS) shorts that we called on the weekend, but I’m really here to talk about our pals at Google Inc. (NASDAQ:GOOG).

There’s not much time as this is a mid-day (12:15 ) update, as we have an opportunity to buy back in. The sell-off is silly, as Yahoo! Inc. (NASDAQ:YHOO) warned that Google was kicking their butts, but traders aren’t smart enough to differentiate two stocks in the same sector, especially when they don’t even understand the underlying revenue model.

I’m still for the spreads but let’s quickly take advantage of cheap calls that we thought had gotten away from us while holding off a bit to get a better price on the puts:

Prices are subject to change every minute but try not to chase:

The Safe(ish) Play:

A) Buy the stock for $397 and sell the outrageously expensive Oct $400s for $17. This reduces your basis to $380. You can roll the calls if the stock trades down, or take advantage of dips to buy-out the caller and resell as it moves up (this is what the big boys are doing to you!).

a. If you rolled the last round to the Dec $370, your basis is $346, so relax and let it ride; you are already $11 ahead on the Dec $370, which you may want to make a $40 offer for.

Middle Play:

A) Assume they will have trouble breaking $420 and take the December $420s for $17.30 and sell the October $430s for $5.70. Again you can roll, or buy out on dips.
B) Take the December $420s for $17.30 and cover with the Oct $380 puts when they get back to $5.50 or less.
C) Split the December $440s for $11.40 with the Dec $360 puts at $10.30. You have 3 months in which a $40 move either way will put you in the money...

a. In a play like this, if I go in the money early, I like to reduce my holdings so I have just the profits remaining so either way I win.

I think Google is oversold atm, and, with earnings coming up, anything can happen:

A) Take the September $430s for $5.30 and the Nov $450s for $5.50 with the hope of selling the Septembers ASAP to reduce my basis on the Octobers.
B) Take a 1/10 (of what you are willing to risk) position on the $420s for $8.10. If that doesn’t work, by expiration, take a 2/10 position on the Novembers that are $30 out of the money, followed by a 4/10 position in the Januarys that are $30 out of the money at the close of November contracts. If the stock is still flat on 19th, be glad you still have your 30% and go home!

We’ll follow up next. As I said, we took half off the table last week and the rest this morning, and not being greedy saved us a lot of pain. Let’s make very cautious entries here, especially as we move on to test $400 again. I’ve taken half off the table to guard against a pullback, and will take the rest off to reposition shortly, so stay tuned!

Let’s keep an eye on Yahoo but, more importantly, Time Warner Inc. (NYSE:TWX) and MSFT, our other on-line rivals. A drop back to $399.50 is nothing more than a healthy 50% retracement of last week’s $37 run!

Disclaimer: You should never make real money plays of any kind without consulting your broker as this is very dangerous. Past performance is in no way an indication of future performance and I fully intend to, but do not currently own any of these trades.

Source: Phil Davis Google Update #3