PREFACE
It’s the secret hidden in plain sight — there is a way to profit in the option market in Celgene Corporation (CELG) that actually takes less risk as it outperforms.
Celgene Stock Tendencies
You could make a perfectly sound argument that Celgene Corporation (CELG) is the strongest large cap biotech in the world, rife with a strong pipeline and multiple blockbuster drugs already driving mega profits.
But the biotech sector in general has been burdened by potential drug pricing regulation that has held the stock prices in check. There is a strategy with options that benefits from a stock price staying relatively stable, or a the very least, not going down a lot.
Getting Smart With Options
Selling an out of the put spread benefits if the stock rises, but it also profits if the stock simply doesn’t drop a lot. It’s “semi-bullish,” but really, it’s just “not very bearish.” Here are the results of selling an out of the money put, every week, returned over the last 2-years in Celgene Corporation (CELG).
This strategy seems like a loser, but there’s a detail here that the entire market may be overlooking, which makes it ripe for the picking.
A smart approach to optimizing the reality of Celgene’s stock dynamics is to let the winners run, but cut the losing puts off early. We can do this by putting in a stop loss. While a short put can lose hundreds of percent, it can only profit 100%. We can change that dynamic though:
In any week, if the short put loses falls to a 100% loss, let’s cut it off, and trade the next week. We are effectively removing the vast majority of the downside risk.
We can do this with the tap of the mouse:
The payoff diagram for the short puts shifts radically:
The blue line is a normal short put, while the orange line is the risk adjusted version with a stop loss. We have removed the vast majority of downside risk.
And here are the results, with the risk reduced strategy on the right and the old version on the left for ease of comparison.
We can see a 55 percentage point increase in return while reducing the risk dramatically. Yes, we have vastly reduced risk and the return is actually higher. This has taken what looked like an obvious losing trade to an obvious winning trade.
IS THIS JUST LUCK?
If our analysis is correct, this stop loss implementation of shorting a put should have worked better than the normal strategy of just selling and holding for all the near-term as well.
It turns out that this is exactly what we find. Here are the results, side-by-side, for the last six-months
We see nearly double the return with less than half the risk. We are focusing on the systematic adjustment to the strategy that took less risk and created more wealth.