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Now that we are experiencing the pain of an Apple (NASDAQ:AAPL) earnings miss, it would be prudent to review the strategy I set forth for this event actually occurring.

Apple Inc. (<a href='http://seekingalpha.com/symbol/aapl' title='Apple Inc.'>AAPL</a>)

*After hours trading shows a share price of $567.00 as of time of this writing.

If you caught this article from several days ago, you might have followed the strategy, so let's review what was suggested:

If you currently own shares I would take a look at selling the August 12 calls at a $640 strike price to collect an approximate premium of $760/contract. You will also have another $35.00/share profit in the share price IF the stock price jumps (almost to its all time high of $644.00/share). If the share price drops or remains flat you pocket the premium and still hold the shares long.

If you want to have some insurance while you sell the calls, take a look at the August 12 puts at a strike price of $605 and consider buying it for $2165/contract for an in the money put to protect you if the price declines. By using the premium gained by the sale of the calls, your cost for this "insurance" would be roughly $1400/contract. In this manner you have reduced the premium you pay for buying the put. You can make money on the put option if the share price drops, and if the share price goes up, you can make money that way as well as the premiums on the sold call options.

To take this one step further, as a long you might want to take advantage of a sudden drop in the share price by adding more shares to your holdings. If that is the case, I would take a look at selling a cash secured put. The August 12 put at a strike price of $565 would give you a premium of $775/contract when you sell it and the ability to add shares at a net-net price of $558/share if the price takes a roughly 10% drop. It will also further offset the cost of the puts you had purchased for downside protection down to a net cost of roughly $625/contract.

Ok, so let's now review where we stand:

  • The August calls we sold at $760/contract are now worth $640/contract. We have made $120/contract thus far.
  • The August puts we bought for $2,165/contract are now worth $2,465/contract. We have made $300/contract thus far.
  • The August puts we sold at $775/contract are now valued at $850/contract. Even in after hours trading, Apple has not reached the strike price to "put" the shares we have promised to buy, to us.

Now, if you recall, we are discussing Apple shareholders who are long the stock and might even add shares at a reduced share price. Thus, we have several strategies to contemplate right now.

  • Buy back the calls now, IF you feel the share price will rebound and surge further ahead than prior to today's market open. Your net earnings will be $120/contract or about 15% for one days trade.
  • Sell the puts you purchased IF you believe that the drop is now over and the stock will either rise or stabilize here. Your net earnings will be $300/contract or about 15% for one days trade.
  • Buy back the puts you sold IF you do not want to take delivery of the shares and believe the stock will drop further. This will cost you $75/contract

By using the above strategy, give or take whatever the market opens at Wednesday, you will have a net-net profit of roughly $345/contract if you have control of an equal amount of contracts for each trade.

This will translate into roughly a 13% profit for a one day options trade, and you still have all of your shares at whatever price Apple opens up Wednesday.

What Would I Do?

If it were MY trade to make, I would hang on to the sold calls for now, as the time deterioration would earn you more money as the options get closer to expiration date. I personally do not see the stock approaching $640/share prior to the option expiration date. Just my opinion folks.

I would give the puts we bought for downside protection a few more days to run, or at least wait to see what happens at the end of trading Wednesday. At that point, if the stock has stabilized, I would sell the puts and take the profit.

Finally, I would buy back the puts we sold and redeploy some of the funds into a lower strike price put and collect the premium on the sale of them. The August 545s would give me a premium of roughly $460/contract, mitigating the $75/contract out of pocket loss I will have taken by buying back the August 565 puts.

In this scenario, I would have another $20/share downside before I was "filled". I would still have the sold covered call position which would continue to gain profits, and by holding the puts I bought for another day, I could continue to protect my shares and potentially make more profits on those before I close my position.

My Opinion

Obviously, these trades carry more risk than plain vanilla options trades. The strategy does offer more downside protection for shares held, as well as the profit potential within the options themselves.

Please make sure you understand this strategy completely, as these are my own opinions and not recommendations to make these exact trades at all.

Source: Apple: An Eerie Sense Of Confusion For This Earnings Report (Part 2)