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Investing With Options

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Looking for Continuation in Autozone

July 7, 2011 By Steven Place

Change Your Oil

One of the most gorgeous trends that came out of 2010 was the move in $AZO. It opened up the year around 160 and finished up 100 points higher. The pullbacks were brief and met with serious conviction.

Like the market, 2011 hasn't been as "easy' for the name. It ws met with serious liquidations at the beginning of the year and had to take some time before the technicals lined up again.

And here we are, at $300 per share-- a pychologically important level and the stock is threatening all time highs, again.

Does this make the stock a sell? No, often times traders look for mean-reversions when there is no reason to expect it. Josh Brown has a wonderful primer on all time highs and the collective psychology for the market.

So the best trade? Until there is evidence of weakness, the trade is up. Earnings are coming up that may provide some volatility but that can easily hedged by options.

Structure Your Risk

So what about the options? AZO is a name, similar to $CMG and $PCLN, that is very highly priced but doesn't attract that much interest in the options market. Because of the illiquidity, you are best suited to trading spreads that offer a limited risk, limited reward trade in which time decay is less of a factor.

The trade I'm eyeballing? The August 300/310 bull call spread. This is a simple trade that looks for a breakout and continuation. The historical volatility is in the single digits so it's reasonable to expect some volatility expansion, which is why I would be a net option buyer.

The spread is a limited risk, limited reward trade with an initial delta of 24. So if you wanted exposure equivalent to 100 shares, you would buy 4 of these spreads. I'd be using a close under the 50 day moving average as a reasonable stop.

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