Reaction to Friday’s triple-whammy of earnings surprises in the financial (C), technology (GOOG) and industrial sectors (CAT) has put the market in a short-term overbought condition, making it likely that some consolidation will be needed early in the week before we can move higher, especially considering that the pop was supercharged by April options expiration. But there’s a good chance that higher we will indeed go. The Dow, S&P 500, Nasdaq 100, and Russell 2000 have all broken trading-range resistance (DJI and NDX most decisively), and strength is building in terms of price momentum, RSI, and market breadth.
With sentiment temporarily turning bullish and implied volatility the lowest it’s been year to date, a bullish net-debit trade might be in order. Nevertheless, any bullish positions should be considered short-term and speculative, for now – there’s no evidence yet that the longer-term bear market has ended. The ideal trade? An oversold stock that traders haven’t yet piled into; a conservative risk/reward ratio; ability to profit from a quick, short-term move; and potential for bigger gains if the rally continues.
One candidate for just such a trade is Garmin (GRMN). The once high-flying stock has hit new 52-week lows in each of the past two weeks, and while there’s little evidence of a long-term trend reversal – with the company facing recessionary consumer-spending cutbacks and declining gross margins, a 100% price increase like we saw last year doesn’t exactly seem probable – the stock last Friday did show signs of an incipient short-term bounce.
GRMN’s 14-day RSI broke up through 30 on Friday; the last two times this happened, it led to a rally amounting to at least $5. Price momentum, as measured by MACD, is starting to turn, and MFI seemingly headed for a cross above the oversold level of 20 suggests that there’s actual money behind the firming in price. The 20-day moving average overhead, at about $50, gives us plenty of room to make a quick buck, and if the stock finds support above that, the $55 area (50-day MA) would be the next target. Last, but not least, the 50-period moving average on the 30-minute chart gives us a clear backstop ($43.75) if the rally fizzles out.
Garmin is scheduled to release earnings on April 30. Recent earnings announcements have beat estimates, but a bad miss could wipe out our entire position.
Take a look at these three possible strategies:
- Buy the May 50 call and sell the May 55 call. This trade has the potential for more than 200% profit if the stock is at $55 or above the week before expiration. But if the underlying doesn’t break $52.50 and stay above that level, time decay will eat away at the gains.
- Buy the June 50 call and sell the May 55 call. This is a more conservative strategy, in the sense that the extra premium in the June call cushions the position on the down side, but it gives us more time to benefit from longer-term gains. If GRMN rises $5 in a week or two, we could expect as much as a 60% to 70% return; if the stock is above $55 the week before May expiration, our profit would amount to 150%, and we could roll the short call up and out to make room for additional potential profit. The down side is that the total cost is higher, so we would lose more if an earnings miss sends the stock into a tailspin.
- If you’re a real cowboy, you could just buy the May 50 call and bet that GRMN will shoot up to $55 before time decay bites your butt.
Regardless of which one best suits your style, all of these trades look a lot better if entered after a pullback, on confirmation of support at $43.75 or above – but more aggressive, or just decidedly bullish, traders might want to jump in right away if price strength holds this morning.
In any case, let’s not forget for one second that all of these ideas are speculative in nature. If merely watching from the sidelines isn’t excitement enough for you, remember that risk management – i.e., keeping losses under control and not getting greedy with profits – can make all the difference between a nice, healthy 20% to 30% profit and a demoralizing 100% loss.