What happens when you have an exponential return in an option before your trade rationale has even played out? You lock in your gains and press it by rolling out to a later month, says the latest options trading information.
This is exactly the situation we find ourselves in with SanDisk Corporation (NASDAQ: SNDK) and the SNDK Sept 41 Puts we recommended on Aug. 19. That day the stock closed at $41.90, down from $44.86 on Aug. 18. And this morning shares fell another 4% to $36.75. This caused the options we recommended to shoot up 200% from $1.63 to $4.90. If you subtract the $1.63 premium paid from $4.90, you get a profit of $3.27 per contract.
But instead of gloating, you should lock in your profits by closing out the trade and rolling your position either to a lower strike price or a later expiration month. I think the wiser option is to stick with September contracts and roll to a lower strike price with the SNDK Sept 30 Puts, currently at 27 cents.
These pus are out of the money, so there is no need to add leverage by reinvesting your profits from the initial trade. You can safely bank those profits, and only put your original capital back in. These options will give you exposure in case the market drags stocks down or if SNDK falls on negative news, such as an earnings or revenue warning from the company.
But keep in mind that SanDisk shares are now down considerably from their highs. And if the market turns around, or if revised numbers come out that are small enough to be considered immaterial, we may actually see a short-covering rally, which would destroy your position. This is why you should only be playing with your original capital and not your profits.
This is the same strategy you should use for pressing a call option trade when you are behind a major rally. The key to success is locking in your profits and knowing how much of those gains should be rolled back into the idea one more time.
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