Breaking Down a CHK trade from Bloomberg's Lunch Money

Our COO was on Bloomberg's Lunch Money  today discussing trading and options order flow on Chesapeake Energy.  You can watch the Video:

One of the things we have been trying to do, along with Mark's Bloomberg appearences, has been to try and explain the Why of the trade, in hopes it will educate potential option traders about options.  Here is an explanation of the trade itself.

While Mark personally did not have an axe to grind, he pointed out how heavy the order flow was in the weekly options and that it was almost exclusively buyers of premium in the weekly options.  Moreover, the trading, that was in the non-earnings months, was almost exclusively buying and bearish.  While we understand that there are times when paper is wrong, our belief is that when almost everyone is buying, it does not make sense to sell.  Take a look at the amount of paper that traded in the weekly Near ATM options today:

Livevol (R) www.livevol.com

With that kind of volume, one might expect the premium to be pretty even.  The only thing even dampening the bullish volatility flow today was that there were call sellers above the 18 strike.

Livevol (R) www.livevol.com

On both calls and puts, premium was bought and bought well.  This means that it is likely that the straddle is either going to break even or profit, especially if CHK drops, which is what paper was mostly expecting based not he order flow in the Weekly options.  To play CHK, my idea was to play a straddle that was slightly bearish buy buying the Aug (W) 18 straddle for around 1.50.  You can see the trade here:

www.tdameritrade.com

The trade will do will well, if CHK breaks out either down or up; it only loses if CHK does absolutely nothing, something everyone who was trading today highly doubts.  A straddle, while a trade that can certainly lose, is probably the statistically best trade, especially if one does not have a directional bias.  If I was forced to have a bias, I would have bought puts, based on the order flow.  The key to the straddle is the gamma, as long as the stock has 'realized' volatiliity, we will be nice winners.  We will win, if CHK moves below 16.50 or above 19.50; stay tuned tomorrow to see how things play out.

The Trade:

Too late for earnings today.  We will see how our trade pans out.  Tomorrow, once the stock moves, look for vol to get over sold.  CHK does have a tendency to move after it has earnings intraday.

 Check out our Webinar focusing on alternative option plays for Corn and Bean related names:

Taking Advantage of the Run on Commodities Using Equity Options

You watched Jim Cramer discuss Mark’s thoughts ( on Tuesday the 31st) on where both corn and soy beans could move over the next few months. Now learn how to take advantage of a potential run up in the two grains using options. In this 30 minute webinar we will discuss how to ‘slow play’ the rally in grains and look ETF’s that have exposure to agriculture. This webinars should appeal all level of option traders.

REGISTER HERE