Tesla (TSLA) had a rough day yesterday. It dropped 7% and is now below the 21-, 50- and 200-day moving averages. Even in this strong market, Tesla stock hasn’t lifted.
According to IBD Stock Checkup, Tesla stock ranks No. 8 in its industry group. The EV maker has a Composite Rating of 42, an EPS Rating of 68 and a Relative Strength Rating of 16.
The poor ratings, especially for relative strength, favor the bearish side. You could short the stock, but that comes with unlimited risk. The bear call spread, by contrast, let’s you profit on the weakness while limiting your loss if you’re wrong.
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Bear Call Spread On Tesla Stock
A bear call spread involves selling an out-of-the-money call and buying a further out-of-the-money call.
The strategy can be profitable if the stock trades lower, sideways, and even if it trades slightly higher, as long as it stays below the short call at expiry.
A bear call spread on Tesla stock with an April expiration could start with selling the 215 call and buying the 220 call. That spread sold this morning for a net credit of around 80 cents.
Selling the spread puts $80 in the pocket of the trader which is also the maximum possible gain. The maximum loss would be $420. Just take the difference of the strikes, which is five, and subtract the premium received then multiply by 100 shares.
Maximum profit happens if Tesla closes below 210 on April 19, in which case the entire spread would expire worthless, allowing the trader to keep the $80 option premium.
The maximum loss occurs if Tesla strengths between now and April. A close above 215 on April 19, leads to the maximum loss of $420. That’s 35 points away, as of this morning.
Managing Risk
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The bear call spread is a risk-defined strategy thanks to the long call. It caps your risk and lets you always know the worst-case scenario in advance. If Tesla stock does jump wildly beyond expectations, it doesn’t matter how far above 215 it gets, the maximum loss remains the same.
And you don’t have to wait helplessly to take the maximum loss. A stop loss could be set if Tesla trades above 205, or if the spread value rises from 80 cents to $1.60.
As this is a bearish position, traders that think TSLA stock could move higher from here should not enter this trade. The position starts with a delta of -4, meaning it is roughly equivalent to being short 4 shares of TSLA stock.
Please remember that options are risky, and investors can lose 100% of their investment.Â
This article is for education purposes only and not a trade recommendation. Remember to always do your own due diligence and consult your financial advisor before making any investment decisions.
Gavin McMaster has a Masters in Applied Finance and Investment. He specializes in income trading using options, is very conservative in his style and believes patience in waiting for the best setups is the key to successful trading. Follow him on X/Twitter at @OptiontradinIQ
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