It’s undoubtedly been a good year for stock holders, with most major stock indexes hitting record highs. Despite plenty of political turmoil in the headlines, investors have shown little concern about the current bull market coming to an end. The S&P 500 is up 8% so far this year and has shown no sign of slowing down.
But it’s the NASDAQ and tech stocks which are really shining in 2017. The PowerShares QQQ ETF (NASDAQ: QQQ), which tracks the Nasdaq 100 index, has taken off through the first five months of the year. It’s up a whopping 19.5% year-to-date.
As you can see from the chart, QQQ has been on an absolute tear this year.
Here’s the thing…
The success of this ETF is somewhat misleading… it really has to do with just four stocks. You see, the four largest Nasdaq-100 stock make up a massive 42% of the entire index. The four stocks I’m referring to are exactly the ones you’d expect: Apple (NASDAQ: AAPL), Alphabet (NASDAQ: GOOGL), Amazon (NASDAQ: AMZN), and Microsoft (NASDAQ: MSFT).
So while MSFT isn’t the stock moving the needle in QQQ, the other 3 giants are a huge reason why the ETF is up nearly 20% this year.
If something were to happen to knock down any of these four stocks, and particular AAPL or AMZN, there could be a fairly sharp selloff.
On the other hand, there are no signs of an imminent reversal in tech stocks right now either.
This rally could just keep plowing right along.
Sounds like a great opportunity for an options strategy…
Well, at least one trader with a fair amount of capital also felt the same way. This trader purchased the June 16th QQQ 142 calls and 140 puts at the same time for a total price of $1.89. This type of strategy is called an options strangle and works if QQQ moves a lot in either direction. Take a look at the payout chart:
As you can see, the ETF needs to climb higher than about $144 or drop below $138 to start making money (by June 16th). In order to have this strategy in place, the buyer spent $1.89 or $189 per strangle. The strategy traded 10,500, so the trader is risking almost $2 million on the trade, which could be lost if QQQ doesn’t move very much in the next two weeks. However, upside is unlimited should the ETF make a big move in either direction.
One thing to consider is how low volatility has been lately. Market volatility has been at or near historic lows despite quite a few political headlines making waves in recent weeks. The trader could be making a short-term bet that volatility is going to spike by mid-June. He or she may be using QQQ for this volatility bet because of the heavy influence by just those four stocks I mentioned above. In other words, the index could be more likely to move sharply in the event volatility impacts one or more of those four big stocks.
As you may have guessed since I’m writing about it, I like this trade. Volatility has been super cheap and buying this QQQ strangle is a smart way to take advantage. What’s more, there’s plenty of headline risk out there given the state of US and global politics right now.
However, the one thing I’d do differently is buy more time. I’d want to go out to at least June 30th for this trade. The June 30th 140-142 strangle (buying the 140 put and 142 call) costs about $2.75, or $275 per strangle. That’s still a reasonable price, and you’re getting two more weeks of control.
— Jay Soloff
Source: Investors Alley