Volume Talks: Friday's Breakout Stocks & Detailed Earnings Option Trade

With the markets trading in the red on Black Friday there were 9 stocks fighting the trend which will be posted in this article. As always, the first thing I do is scan the list for familiar names, such as stocks which have appeared on similar scans multiple times in the past week or two (most of these names are unfamiliar so it saves a lot of time, especially with larger lists). This indicates there may be some real momentum behind the stock, and that it could trade higher in following sessions as well. Then (if and when any of the stocks I find are familiar to me), I take a look at the chart(s) to see if I can structure a potential option trade. As stated, in this post I will name 9 stocks, but only write about one in detail and outline an option trade I may look at opening in the near future.

This method is just one of the ways I use to find stocks for potential option trades. The first part of this post will show the list of stocks which traded higher on above average volume. The second part of this post requires the knowledge of stock options. To learn more about the option strategies outlined in this post, risks, pricing, calculations, other strategies, and options in general, click here.

The table below shows the company, ticker, per share % increase, and volume increase (% increased compared to 50 day average). For your convenience I have ranked the stocks in order from greatest to least volume % change.

UPDATE: First I will take a minute to note a quick update on RINO which appeared on my breakout list multiple times before writing a detailed option trade in a blog post on November 17. I have taken enough profits in the Vertical Call Spreads opened to have a realized gain even if the spreads currently open expire worthless (also known as playing with the houses money). I do believe RINO has a shot at trading even higher, but I needed to take profits as the stock has soared nearly 25% over the past few trading days.

One stock from the list above which has appeared a number of times in the past is A-Power Energy Generation Systems (APWR). This stock has been on a tear lately and it is worth it to note they haven't reported earnings yet, but according to AOL (AOL) money & finance they are scheduled to do so on December 3. First I will give a company profile from Google (GOOG) Finance below.

A-Power Energy Generation Systems, Ltd. (A-Power) is a renewable energy company in China, engaged in providing onsite distributed power generation systems and micro power grids for industrial companies. It is also engaged in the production of wind turbines. The Company is engaged in designing, constructing, installing and testing distributed power generation and micro power grids as stand-alone facilities and for various customers in the steel, chemical, ethanol, cement, and food industries. A-Power design projects, subcontract their construction and installation to approved third-party subcontractors under its project oversight, and conduct testing on completed projects prior to turning them over to its customers. The size of its projects range from 5 megawatt to 400 megawatt and allow its customers, which require heavy electrical input, to recapture previously wasted heat and gas from their manufacturing processes to generate electricity.

It is clear this stock has momentum behind it, so I certainly wouldn't mind getting long. Therefore, I will be writing a detailed option strategy about APWR in this post today. Note that many of the stocks listed above will be good plays and many will be bad plays, I list them all to show possible breakout stocks and write about a few of the ones I am interested in trading.

As stated APWR is scheduled to report earnings December 3, therefore I will be looking to open the option strategy discussed below closer to the date to take advantage of increased levels of implied volatility.

A-Power Energy Generation Systems Earnings Option Trade: As you can see from the chart above support for APWR is near 15 a share, below that some minor resistance comes in at 14, however if the stock sells of below 14 it could trade down to 12.50 or even 11. I do not expect APWR to sell off below these levels, however with a bad earnings report it easily could with the amount the stock has risen in the past few weeks. Therefore I will structure an option trade around levels of support that takes advantage of the increased levels of implied volatility leading up to earnings. I have decided to be a seller of Vertical Put Spreads. This is a very easy strategy to open as it only has two different option contracts.

I would first look to sell December 15 strike put options, and purchase the December 12.50 strike put options with the cash received (1 for 1). Based on current pricing, this spread can be opened for a net credit of roughly $60 per option spread. **NOTE** Depending on where the stock is trading and how bullish I become by December 2, I may even look to sell the December 17.50 put options and purchase the December 15 strike put options and 20 strike call options with the cash received, however that is a bit more risky and complicated.

Profit & Loss: This trade will be profitable as long as APWR maintains a price of 14.40 a share (18.2% lower than current share price), and will return a maximum of $60 per option spread or 24% of margin requirement if APWR can hold above 15 a share by December 19. The maximum loss from this strategy is $190 per option spread and will result if the stock sells off significantly (by more than 29% by December expiration).

This is a bullish strategy and should not be considered if you think the stock will sell off in the near future. However if you feel the stock could move higher in the near future, this strategy could yield a nice gain. To get a better understanding of stock options and different option strategies please check out my Simplified Stock Option Trading E-Books.

These are just examples and are not recommendations to buy or sell any security; if you're more bullish/bearish, you’ll want to adjust the strike price and expiration accordingly.

The reason option volumes have surged in the last five years is because they are a great way to hedge your portfolio as well as create income off of your shares (see chart here). Keep in mind when using this strategy it is essential that broker commissions are low enough to profit from the position.

Disclosure: Long December RINO 30 Calls, Short December RINO 35 Calls