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I am going to take tons of flak on this article however I believe that Apple (NASDAQ:AAPL) has run up (again) too far too fast.

Since 7/25 the share price has risen from $575/share up to $621/share or nearly 10% in less than 2 weeks.

The high that Apple shares have hit is $644/share and it might just test that high sooner than later. Here is the issue however:

  • Slower smartphone sales worldwide
  • More competition to the iPhone
  • Legal issues with its major competitor

Granted, most Apple bulls would simply shrug these headwinds off but I am looking at this move from a different perspective.

To me, the share price is beginning to price in the new product launches coming out this fall. Buyers of the stock have shrugged off the last earnings report and the warnings that the next report might even be weaker.

As this article points out:

iPhone sales also dropped 26 percent compared to last quarter to 26 million units sold, or about two million fewer than analysts were anticipating.

Apple is (also) expecting earnings of $7.65 per share and revenue of $34 billion for its current quarter, a far cry from the $10.26 per share and $38.1 billion that Wall Street analysts had earlier forecast.

After this report the share price went under $570/share very quickly then drifted down to about $565. The fears are not unfounded and even in the Apple conference call, Tim Cook mentioned the slowdown issue:

CEO Tim Cook acknowledged that rumors about the forthcoming iPhone 5 may have dampened iPhone sales during the quarter.

"We are reading the same speculation and rumors that you are," Cook said in response to a query about the iPhone sales miss. "We think this has caused some pause in customer purchasing."

Rumors? What rumors? The iPad mini? Ok, perhaps that is a rumor, perhaps not, but the share price has been going straight up since the conference call and earnings report.

I will point out that the 4th-quarter results could be extraordinary. As this article points out:

With the growing likelihood of the new iPhone 5 and likely mini iPad shipping before the end of the next quarter, Apple's next set of results are likely to be off the charts. For developers on iOS, Apple has now paid out some $5.5 billion paid to developers over the App Store. Apple's increasing physical stores are doing a roaring trade with 83 million visitors.

Sounds really great right? I will take a small step back here and state that perhaps what we are seeing with the share price, is the anticipation of new products and a strong quarter. That being said, I feel now might be a good time to lock in profits from the significant run up over the last 2 weeks.

Locking In Profits With Put Options

I am not suggesting that we dump Apple shares. I am offering my opinion on how to lock in some profits and protect your position from a sell-off.

A sell-off occurred not that long ago.

In roughly three weeks the stock price dropped over $80/share or almost 14%.

I wrote this article on 4/14; Apple: The Pullback Might Be Worse Next Week

I was dead on.

To be clear, I am not saying this time will be like that time. To be sure, the stock had a parabolic move back then, so my opinion was more technically based. This time, while the share price action has been strong, it is not parabolic. I do believe it is an upside overreaction however.

The put options I would look at would be the September 620s currently in the money and selling for about $2500/contract.

These puts will give you immediate downside "insurance" for each 100 shares you own per contract you purchase.

IF the share price drops, this IN THE MONEY put option will increase in value. IF the share price of Apple rises, this option will decrease in value, and can be bought back at any time, or held till expiration.

Your position could look something like this:

100 shares of Apple: Value: $62,000 (as of today 8/9)

1 put contract purchased at $2,500 (as of today 8/9)

Now let's say the share price drops by $10/share. Since we are buying an ITM put, with an October expiration, the put price will RISE, covering much of the share price drop in the stock (if not more since it depends on how far and fast a share price drop happens).

You can just take this action by itself, however it might also be a really good idea to sell some naked puts to do several things.

  • Cover part or all of your put option purchase with the premium
  • Add to your current position at a greatly reduced price.

For this trade, I would look at selling the November 575 puts, at about $1700/contract.

Now you have pocketed $1700/100 shares, which will reduce your put purchase to about $800/contract, giving you that downside insurance protection for much less, and if the shares drop down to $575/share by the option expiration date, you will have made money on the puts you bought, plus you will have added more shares to your long position.

If the share price does nothing, then you still pocket the premium on the sold puts ($1700/contract) and the put options you purchased will expire worthless, costing you $800/contract, for a net profit of $900/contract.

If the share price goes up significantly, you also keep the $1700/contract premium, make more money on the actual shares you own, and can either dump the puts you bought or let them expire taking the loss of $800/contract for a total gain of $900/contract plus whatever price the Apple shares have risen.

My Opinion

Just take a peek at these 2 articles I wrote recently:

An investor willing to take some risk (yet somewhat conservative) with this option approach, can accomplish a hedging strategy that is used just about everyday by the largest hedge funds around.

I did not get into any fancy words, or nicknames because those can confuse anyone with a heartbeat. I choose to write as specifically and simply as possible, so that even I can understand it!

Disclaimer: Make sure you check with your broker or advisor as to your own personal circumstance prior to taking ANY actions mentioned here or elsewhere.

Source: Apple: Buy Put Options To Protect Gains