With market volatility increasing on Friday, it could be worth looking at some bearish candidates. Nike (NKE) has struggled in the last few years and remains firmly stuck below a declining 200-day moving average. So, let's consider a bear call spread trade in Nike stock.
On Monday morning, shares jumped 5% amid signs of institutional money going into battered blue chip firms.
The 200-day moving average is sitting around 80, which could provide some short-term resistance on the upside.
Nike has been facing several challenges recently.
In its fiscal second quarter ended in November last year, the company reported a 24% decline in earnings to 78 cents per share from $1.03 the previous year, with revenue decreasing by 8% to $12.4 billion. Gross margin fell by 100 basis points due to increased discounts and changes in sales channels. Analysts have subsequently lowered their price targets, citing declining sales and efforts to clear excess inventory.
With Nike stock under pressure, I'm willing to bet that it will trade sideways at best over the next few months. So today, I'm looking at a bear call spread that assumes NKE will struggle to get above the 82.50 level between now and mid-April.
A bear call spread involves selling an out-of-the-money call and buying a further out-of-the-money call. The strategy can draw a profit if Nike stock trades lower, sideways, and even if it trades slightly higher, as long as it stays below the short call at expiry.
An April 17-expiring bear call spread on Nike stock using the 82.50-87.50 strike prices can be sold for around $1.15 per set of contracts, according to recent trading. Traders selling the spread would receive $115 in option premium in Nike stock. That also serves as the maximum possible gain. The maximum loss stands for this trade at $385.
That represents a potential return of 30% between now and April 17. The spread will achieve the maximum profit if Nike stock closes below 82.50 on April 17, in which case the entire spread would expire worthless, allowing the trader to keep the $115 option premium.
The maximum loss will occur if Nike stock closes above 87.50 on April 17, which would see the premium seller lose $385 on the trade. While some option trades have the risk of unlimited losses, a bear call spread is a risk-defined strategy, and you always know the worst-case scenario in advance.
A stop loss could be set if Nike trades above 80, or if the spread value rises from $1.15 to $2.30. Also, for every 2.5-point price move in Nike stock, a trader adjust could the corresponding strike prices by the same amount.
According to IBD Stock Checkup, NKE stock ranks No. 9 in its group and has a Composite Rating of 28, an EPS Rating of 44 and a Relative Strength Rating of 22.
Please remember that options are risky, and investors can lose 100% of their investment.
This article is for education purposes only and not a trade recommendation. Remember to always do your own due diligence and consult your financial advisor before making any investment decisions.
Gavin McMaster has a Masters in Applied Finance and Investment. He specializes in income trading using options, is very conservative in his style and believes patience in waiting for the best setups is the key to successful trading. Follow him on X/Twitter at @OptiontradinIQ
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