Lowe's (LOW) Companies: Post-Earnings Option Strategies

After a mixed earnings report, Lowe's Companies LOW investors are trying to decide their next move. Third-quarter results topped analysts' estimates by a penny but failed to match expectations from a revenue perspective. Looking ahead, LOW issued a fourth-quarter guidance that was in line with expectations.

This ambivalence is reflected in the stock's price; LOW shot higher out of the gate on Monday following its earnings report and declined throughout the session, ultimately closing in the red. In 2010, LOW has been vacillating in a range between 20 and 28; the stock is off about 8% year-to-date.

One thing LOW has in its favor is a decent dividend yield of about 2%. The retailer is an interesting name to consider, especially when it comes to options trading. Range-bound stocks aren't of much use to stock traders but even the most inert of securities can potentially be a profitable investing opportunity with the right option strategy.

Below we have outlined two strategies – one moderately bullish and one bearish. These strategies are for educational purposes only; consider risk tolerance and trading experience before planning any new trades.  All prices are as of Tuesday afternoon, when LOW shares were at $21.40, down six cents on the day.

Moderately Bullish Option Strategy: Buy-Write

A “buy-write” play contains the same elements as a covered call (long stock and short call) but the trades are executed simultaneously. For LOW, an investor might buy shares at $21.40 and sell the January 2011 22.50 call (one contract for every 100 shares purchased) for 59 cents.

If LOW rallies above the strike price by expiration and the shares are called away, the trader will have earned $1.10 (the difference between the stock's purchase price and the strike price) plus the 59-cent premium collected for selling the call. This is a total return of $1.69, for a return on risk of 8.1% in two months.  Additionally, the investor has the potential to collect any dividend paid on the stock during the life of the trade.

Breakeven for this strategy is also $20.81, or roughly 2.8% below current levels. This strategy allows for almost 3% of downside in LOW shares before it enters losing territory.

Losses are equal to those of long stock, dollar for dollar once the downside breakeven of $20.81 is breached. Maximum loss only occurs if LOW drops to zero.

(The chart below was created with a profit/loss calculator tool.  Access this tool and others with a virtual trading account from OptionsHouse).

Bearish Option Strategy: Long Put

Those who are bearish on the home center retailer might consider a short-term long put. The December 21 put, for example, could be purchased for 52 cents per contract. At expiration, if LOW is trading below the breakeven mark of $20.48, the put will be profitable as the stock declines.

Above the 21 strike, the maximum potential loss is 100% of the 52-cent premium paid.  Between the breakeven mark and the strike price, investors will keep a portion of the initial premium.  Think of this strategy as a downside hedge in place on a downside move of at least 4.3% in the stock.

Photo Credit: jimg944

The above information is provided by OptionsHouse, LLC (“OptionsHouse”) for informational and educational purposes only and is not intended as trading or investment advice or a recommendation that any particular security, transaction, or investment strategy is suitable for any specific person. You are solely responsible for your investment decisions. Commentary and opinions expressed are those of the author/speaker and not necessarily of OptionsHouse. Neither OptionsHouse nor any of its employees, officers, shareholders or affiliated companies guarantee the accuracy of or endorse the views or opinions of guest speakers or commentators. Projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature and are not guarantees of future results. Any examples used that discuss trading profits or losses may not take into account trading commissions or fees.

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