This is a review of the trade we put out in this article dated September 11th, which proved to be a big winner in just 4 days. The puts traded above our suggested entry point, and the calls traded below our suggested entry points on the day the trade was issued. Thus, it was very easy to put the suggested strategy into action
We recommended that traders sell the American Capital Agency Corp. (NASDAQ:AGNC), Jan 2013, 33 puts at $1.55 or better. They traded as high as $1.70. We then advised traders to use the proceeds from the sale of the puts to purchase the Jan 2013, 36 calls for $0.38 or better. The calls traded as low as $0.33 cents. We concluded by stating that traders should consider booking profits on at least half the position if it was showing a gain in the 60%-100% ranges.
On the 14th the calls could have easily been sold for $0.72 cents for a gain of 89.5%. One could have sold the calls for even more on the 17th. This is an incredible return for just four days.
Traders who are not interested in having the shares put to them could have closed the put position out at $0.90 cents on the same day, for a 42% drop in premium from the original sale price. Investors who would not mind owning the stock at $33 or better can continue holding the puts.
How do things look going forward and what should traders do with the other half of their position?
The Fed is going to buy $85 billion worth of bonds for the rest of 2012. In 2013, they will purchase $40 billion a month until they feel that the economy no longer requires their support. In other words, this program could last indefinitely. Rates would be kept at historically low levels at least until the middle of 2015. This is a good environment for REITs as they tend to thrive under such conditions. Thus, American Agency should continue to perform well.
The stock is overbought, and it has a tendency to pull back after it trades above the + 1Standard deviation Bollinger band as indicated in the chart above. The opposite occurs when it trades below the -1 Standard deviation Bollinger band as indicated in the chart below. The MACD's are also trading in the overbought ranges. However, in general, the first pullback tends to end with a test of the 30-day Bollinger band moving average. The stock tests this mark and then usually surges to new highs before pulling back. The stock could potentially trade in the $37.50-$38.00 ranges before dropping down to the $34-$35 ranges.
What are the options doing right now?
The calls are presently trading in the $0.58-$0.70 ranges. The spread is rather wide at this point in time.
The spread in the puts is much better as they are trading in the $0.90-$1.00 ranges. If you decided to buy back the puts right now, you could still buy them back at $0.95 or better and walk away with a gain of $65 per contract.
If you are willing to take a risk, consider holding the calls until the stock trades to the $37.50-$38.00 ranges. To protect your profits consider placing a stop at $0.45. Generally speaking the stops on options should be mental stops. The options market is a highly volatile market and the option could momentarily spike down before stabilizing. Make a note somewhere and monitor the option. If it drops to that level, then put in an order to close the position.
The benefit of this strategy is that it provides you with the chance of getting into the stock at a much lower price and the chance to lock in gains if the stock should rally while you are waiting for the shares to be put to your account as evidenced by the current trade.
The stock market is in a highly volatile phase. If you are looking to lock in higher gains on the remaining half of your position, then monitor the $36.70 ranges well. A test of this zone and an inability to close above it will be a sign that a short term top is in place. Ideally, traders should have closed the entire position out when the call options were showing gains in excess of 90%. There is still a decent chance that the stock could trade to the $37.50 plus ranges before pulling back. Another variation would be to put in orders to automatically close the remaining half the moment the calls are showing gains in excess of 100%. To protect your profits it would be advisable to place a stop at $0.45 on the Jan 2013, 36 calls. If you are not looking to have the shares assigned to you, then you can close the put position out when you sell your calls.
Options tables sourced from yahoofinance.com.
It is imperative that you do your due diligence and then determine if the above strategy meets with your risk tolerance levels. The Latin maxim caveat emptor applies - let the buyer beware.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Business relationship disclosure: This article was prepared for Tactical Investor by one of our analysts. We have not received any compensation for expressing the recommendations in this article. We have no business relationships with any of the companies mentioned in this article.