NetFlix Adventures - 07-23-2010

With NetFlix earnings about to be announced on 07/21/2010 after hours, an analysis of the chart showed that the stock was way extended.  However, there was quite a bit of bearish sentiment on the stock showing a high short interest.  I wanted to buy puts on the stock, but didn't like the prospect of a short covering rally that could take place if NetFlix beat their earnings.  So I decided to try out a Long Strangle.  A Long Strangle is a strategy where a long position in both a call and a put are opened but at different strike prices.  The maximum risk is the cost of the call and the put.  The maximum profit is unlimited on the call side and from breakeven ot $0 on the put side.  The stock was trading around 120.  I bought an August 115 put for around 5.70 and an Aug 125 call for 6.30 resulting in a net cost of $12.00 for the trade.  With the stock up almost 200% in the last year, I was expecting either a strong short covering rally or a fairly big drop if the company missed its earnings.  Please note that the premiums on the options are quite large so the market was expecting a similar move and taking the uncertainty into account. 

After NetFlix announced their earnings, they narrowly missed the wall street estimates (despite posting a 27% increase) and the stock moved down.  By the middle of Thursday, it appeared as if I would end up losing money on the trade since the call value had plummeted but the put had not yet generated enough revenue to offset the loss from the call side.  But the stock continued down and I was around break even by the time the market closed.  I was able to close out my put position for around 13.45 this morning resulting in a profit of 1.45 for the trade (not much really).  But I still have my call that has until Aug 20th to expiration and is worth about 0.75 right now.  I may, however, hold onto it, to see if we get a rally in NetFlix and I might be able to get a little bit more money out of it.  All in all, about a 12% return over two days (not counting my trade cost of $4 roundtrip) but it did cause some anxiety :-)   But I wanted to get comfortable with this strategy so I chose to dip my toes in the water at this time.