All posts by Jay Soloff

Jay Soloff is an options analyst with Investors Alley. Jay was previously the Chief Options Strategist at Hyperion Financial Group where he was the editor for over six years of several successful options newsletters. Prior to joining the online investment world, Jay was a floor trader and market maker on the CBOE, the world's largest options exchange. His experience includes trading a multi-million dollar options portfolio in equities options as well as serving as a consultant to Wall Street options trading groups. Jay also spent time as a senior analyst at a hedge fund of funds, where he analyzed professional options funds as well as traded option strategies for hedging purposes. All told, Jay has 20 years of options trading experience. He received his undergrad degree in Economics at the University of Illinois - Champaign, and his MBA and Master of Science in Information Management from Arizona State University.
Options

Make 100% Or More On This Next Big Market Trend

One of the early financial market themes for 2018 is the renewed interest in commodities.  We’ve seen early gains so far in gold, oil, and natural gas, to name a few.  At least one of the drivers behind the buying is the expected increase in interest rates.

As a reminder, commodities are usually priced in dollars on a global scale.  As such, when US interest rates go up, it generally pushes down the value of the dollar and makes commodities more affordable on a relative basis (in non-dollar currencies).

Because interest rates are set to go higher this year – perhaps more than initially expected – commodities are starting to attract buyers.  If inflation is finally starting to rear its head, it means the Fed could be forced to raise rates faster than planned.  Commodities prices may or may not add to the acceleration of inflation, but they definitely experience increasing demand in periods of rising inflation.

It’s probably not a surprise, but traders may be positioning for a rise in commodities pricing.  The usually not-too-heavily-traded PowerShares DB Commodity Tracking Index (NYSE: DBC)had a fair amount of action last week, for example.

A trader looks to have purchased 10,000 April 17 calls for around $0.50, which the ETF trading just under $17 per share.  That’s a $200,000 bet that DBC will be at least $17.50 by April expiration.  The trade will generate $1 million for every $1 above the breakeven point.

Here’s the thing…

I’m not a big fan of DBC as a commodity tracking ETF and wouldn’t recommend emulating this trade.  It’s not that I disagree with the premise – in fact I do believe commodities are going to rally – but I’m not a fan of the instrument itself.

You see, DBC is supposed to track a broad-basket of commodities, but over 50% of the index weighting is based on energy commodities (mostly oil).  As such, the price of DBC is going to be heavily skewed by what happens in the energy markets.  My feeling is, if I want to have that much exposure to energy commodities, I’ll use a targeted energy ETF.

For a broad-based ETF, I actually want all the important commodities to be as equally weighted as is reasonable.  A much better product for this type of weighting is the iPath Bloomberg Commodity Total Return ETN (NYSE: DJP).

DJP doesn’t trade a lot of options, but it’s viewed as a good representative of the commodities market as a whole.  Energy commodities only have 30% weighting in DJP, which is in-line with the number of commodities it contributes to the index.  DJP does a better job of representing metals and agricultural products.

As I said, DJP doesn’t trade a lot of options, but it does have options listed.  If you’re bullish on commodities in general (as opposed to specific commodities) you could put on a DJP call spread in April for a reasonable price.

For example, the April 25-27 call spread (buying the 25, selling the 27) should only cost about $0.40 with the stock trading around $24.50.  That gives you a breakeven point of $25.40 with max gain of $1.60, and over 3 months of control.  With the options so cheap, you could conceivably generate returns of 300%.

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Source: Investors Alley 

Options

This Energy Trade Could Post Triple-Digit Gains

Investors often try to figure out themes in the financial markets once a new trading year hits.  2017 was all about low volatility, cryptocurrencies, and tax reform.  With tax reform out of the way, we still have low volatility and cryptocurrencies/blockchain tech on the board.  What else could be in store?

Obviously, the jury’s still out on what the new trends will be this year – if there are any new ones.  So far, conditions have been a lot like 2017.  However, I believe we’re going to start hearing and seeing more about inflation.

You see, the economy is already doing well.  Add in tax cuts for individuals and businesses, and there’s going to be even more money floating around.  That extra money could easily make its way into the consumer/business spending ledger.  If enough money is spent on goods and services, we could finally see a ramp up in inflation.

Investors are already showing some concern about inflation, with the move into gold this year.  So far, the price of gold is up about 8% since-mid December.  It’s the first time since last September that gold is closing in on $1,350 per ounce.  Keep in mind, gold is a very common hedge against inflation.

Here’s the thing…

Besides gold, most commodities generally serve as a good inflation hedge.  Commodity prices tend to go up as the price of the dollar goes down (a recipe for inflation).  Many investors look to precious metals in these scenarios, but energy is also a big beneficiary of inflation hedging.

Crude oil is already up close to 7% just this year (all two weeks of it).  Natural gas is up close to 9%.  What’s more, energy stocks are following suit.  The Energy Select Sector SPDR ETF(NYSE: XLE) is up over 7% year-to-date.

At least one very well-funded trader believes XLE and energy stocks are going to continue their run higher. With XLE trading around $76.50, the trader purchased 27,000 March 77 calls for $1.67.   That means the trader will start generating profits above $78.67 at expiration.

This is obviously an extremely bullish trade.  The trader is betting $4.5 million that XLE is going to keep going higher.  Every $1 XLE rises above the breakeven point will result in $2.7 million in profits.

Now, this is a nice, easy way to make a bullish bet on XLE.  However, if you want to save some money, you could also do this trade as a call spread.  Using a call spread (selling a higher call against your long call in the same expiration) would substantially reduce costs, but also cap your gains.

For example, at the time this trade was executed, you could have sold the 81 calls for about $0.50.  The total cost of the trade would have been reduced to around $1.15.  To find max gain potential you just find the width between the long and short strikes ($3) and subtract the price paid ($1.15) and you get $1.85.  That’s potential gains of 160%.  A call spread like this is an easy way to lower your risk without sacrificing too much in potential upside.

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Source: Investors Alley 

Options

This Surprise Stock Could Make You Big Bucks

It’s no secret that options are often the investment vehicle of choice for “smart money” traders.  Big funds and trading firms regularly use options to establish their biggest positions – sometimes in conjunction with stock holdings, other times just using options.  It’s especially true for the most heavily traded ETFs and stocks.

Less often, you’ll see big money trades occur in low-activity options chains.  Stocks that don’t have very active options chains tend to have wider bid/ask spreads and aren’t nearly as liquid as the active options products.

If you scan the biggest options trades from any given day, you’ll see a lot of familiar names.  There will be the heaviest traded index ETFs and volatility ETFs.  There are also usually some of the big tech names near the top.  It’s relatively rare to see a name on the list that’s unrecognizable by most investors.

However, that’s exactly what happened to me just the other day.  I came across a ticker that I’m not sure I’ve ever seen on an options screener before.  The name of the company is Blackhawk Network Holdings (NASDAQ: HAWK) and the company provides prepaid products and payments services such as prepaid gift and telecom cards.

I admit, I had to look up HAWK to see what the company does.  Moreover, it trades all of 300 option contracts a day on average.  In other words, when there’s a big options trade, it’s easy to notice.

So here’s the deal…

Someone made a massive trade in HAWK – and I mean massive, especially when compared to average volume.  This trader bought 10,000 February 35 calls while selling 20,000 40 calls in the same expiration.  This type of trade is called a ratio spread and it helps reduce the cost of the trade.

In this case, the trader paid around $0.50 total.  That makes the breakeven point $35.50 at expiration in February, with max gain at $40.  Even with the double-short call at the 40 strike, the trader still dropped about $500,000 on the trade.  But, max gain is in the neighborhood of $4.5 million.

At the time of the trade, the stock was sitting at $34.  After the trade hit the wire, HAWK shot up 7% on the day.  It’s almost certainly due to the trade, which is a lot of money to spend in such a low volume options name.  It’s also obviously a very bullish trade on the stock.

There’s nothing wrong with replicating a trade like this in your own portfolio, as someone with a ton of capital clearly believes the stock is going up.  However, you probably want to avoid doing a ratio spread since it opens up your risk considerably to the upside.

Instead, I’d recommend paying a bit more and doing a simple call spread.  The 35-40 February call spread costs about $1.75 with the stock at $35.65.  That’s not too steep a price to pay since the spread is already in the money.  You can still make $3.25 on the trade, which is definitely a reasonable haul in this situation.

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Source: Investors Alley

Options

Betting Big On This Chipmaker with More Upside Than Apple

It’s only the first week of the New Year, and there’s already plenty going on in the financial markets. While there hasn’t been much in the way of volatility, that’s only because stocks are mostly going up. In that sense, 2018 is acting much like 2017.

On the other hand, one major stock that isn’t going up is Intel (NASDAQ: INTC). In fact, it’s quite the opposite situation. As of this writing, INTC was down 5% to kick off 2018.

Here’s the deal…

News broke this week of a potential design flaw in Intel processors which could pose a security risk. Moreover, the fix (patch) for the flaw allegedly slows down the performance of the chips by as much as 30%. This flaw supposedly only impacts Intel chips and not its competitors.

You can see why this would be very bad news for the company. Not only will it likely push consumers to other chip producers, but it also will open up lawsuits or expensive fixes/replacements for Intel. It’s clearly the reason why INTC stock is down and competitors like Advanced Micro Devices (NASDAQ: AMD) and NVIDIA (NASDAQ: NVDA) are up.

Intel hasn’t denied the existence of the flaw, although the company says it will impact multiple types of chips across various devices and is not just an Intel-specific issue. Regardless, with INTC controlling 80% of the microprocessor market, it will certainly be hit the hardest.

This scenario is also playing out in the options market, where AMD is seeing quite a bit of bullish options activity. The day the news hit the wire, about 80% of the money going into AMD options was of the bullish variety. (About 125,000 more options contracts traded that day than what’s average in the stock.)

One trade which caught my eye was a purchase of over 1,500 April 12 calls with AMD trading around $11.75. The buyer paid $1.20, which means AMD needs to get to $13.20 by April expiration for the trade to break even.

The call buyer is spending over $175,000 on these contracts, so there clearly is some belief that AMD is going to keep going up. Over the last 52 weeks, AMD has been as high as $15.65, so it’s definitely not out of the realm of possibility that the stock runs quite a bit higher.

It will be interesting to see if the exuberance around AMD’s prospects diminishes once the news sinks in a bit more. As you can see from the chart, the stock already came back down to earth somewhat the same day it spiked higher.

If you believe AMD is ripe for a move higher, but you don’t want to drop $1.20 on 3 month calls, you could buy a call spread. That’s when you purchase a lower strike call, such as the 12, and sell a higher call, like the 14, to save money on the position.

An April 12-14 call spread like I just described only costs about $0.60, or half the cost of the straight call purchase. Your upside is limited to $1.40 because of the short 14 strike and the $0.60 cost of the trade. But, you are spending a whole lot less on the position. Plus, spending $0.60 for the chance to make $1.40 is not a bad payout ratio at all.

This simple strategy can easily add thousands of dollars of income to your savings over the next 6 months, and I want to show you step-by-step how to do it in your portfolio.

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Source: Investors Alley

Uncategorized

What To Expect From Gold In the New Year

Despite the rapid approach of the holiday season – with plenty of investors going on vacation – there has still been plenty of financial news to contemplate. Of course, the biggest news item in the world of investments has been the rapid rise of the price of bitcoin, along with the launch of bitcoin futures.

Actually, “rapid rise” is putting it mildly, as the price has basically gone straight up. The craziness and popularity of cryptocurrencies is probably why we’ve heard almost nothing about gold. It seems like a long time since the masses were clamoring for every ounce of gold they could get their hands on.

These days, gold is barely an afterthought. Who needs precious metals when you can buy bitcoin… or so it seems.

Of course, many investors know better than to fully write off gold. Interest in the yellow metal has always been cyclical There’s no doubt gold will rise again, probably about the time this whole cryptocurrency bubble bursts and investors start panicking.

At least one big options trader is very bullish on gold as early as next month. He or she executed a sizeable trade in January options of SPDR Gold Shares ETF (NYSE: GLD) called a risk reversal. This strategy uses premium from short puts to help finance a long call positon.

Once again, it’s extremely bullish and a bit risky depending on your perspective. The risk reversal can lose the call premium on a down move and even more on the short puts if the price of GLD drops below the short put strike.

On the other hand, if you believe there is a floor to how far gold can fall by January, this type of strategy can be a good, cheap way to bet on gold’s upside.

In this case, the trader bought the January 19th 124 calls and sold the 115 puts at the same time, with GLD around $119 per share. The trade was done for a $0.07 credit, 2,100 times. So, if GLD stays around the current level, the trade makes a small amount of money. Below $115, the trader loses $210,000 per $1. But, above $125, the position makes $210,000 per $1 move higher.

The best part is the risk reversal collects a small amount between $115 and $124, which is a pretty wide range. Basically, it eliminates the negative effects of time decay while still allowing full participation on the upside.

Moreover, gold likely does have a floor as GLD hasn’t been below $115 in almost a year. Plus, with the cryptocurrency mania and other political events, investors aren’t going to stray too far from gold. Gold may be ignored right now, but it isn’t forgotten.

If you’re bullish on gold, you can skip the risk reversal since you likely won’t be trading 2,100 contracts. Instead, buying the calls straight up isn’t a bad idea with how cheap they are right now. The January 120 calls are only trading for $1.00. Getting to $121 (the breakeven point) seems like a very reasonably possibility with a month to go to expiration.

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Options

An Interesting Way To Hedge Portfolio Risk

One of the great things about options is how flexible they can be for custom-designing strategies to meet your needs.  With options, even something as mundane as hedging can be done in an interesting and creative manner.

This is especially true since volatility ETPs (exchange traded products) have become widely popular among traders and investors.  Being able to buy or sell volatility (related to the level of the VIX) is something which used to be restricted to the realm of the professional options trader.

Now, a fund like iPath S&P 500 VIX Short-term Futures ETF (NYSE: VXX) is as commonly traded as just about any individual stock or ETF on the market.  In fact, VXX is one of the top 10 most actively traded equities, period.  It’s a useful instrument for betting for (or against) a short-term spike in volatility.  In particular, it makes for a great hedging tool for long stock portfolios.

Speaking of hedging, here’s a very interesting trade that hit the wire just recently in VXX…

With the VXX price at $31.50, someone sold a January 29 put while simultaneously buying a January 35 call.  This kind of trade is called a risk reversal and it’s clearly bullish on VXX.  The short put is used to help finance the long call.

In this case, selling the put brought down the price of the call to $0.57 (it would have cost $1.88 without the premium collected from the put sale).  The risk reversal traded 7,000 times, so the trade cost the buyer $342,000 in premium – a substantial amount lower than what the call would cost straight up.

Still, that’s a lot of premium to spend on a product known for mostly going down (as you can see in the chart).  As such, this trade is likely a creative way to hedge against volatility risk through mid-January.  If VXX stays where it is, all that’s lost is the premium amount (not bad for a hedge on what is likely a big portfolio).  However, if VXX climbs above roughly $35.50, the position makes $700,000 per $1 higher.

On the other hand, the position could lose $700,000 per $1 below $29 (along with the premium spent) due to the short put.  However, VXX isn’t likely to plummet that quickly due to macro event risk.  Rather, it is more likely to move down slowly – giving the trader time to adjust the risk reversal as necessary.

I think it’s an interesting way to hedge risk, as long as you are able to make adjustments as VXX moves lower.  It wouldn’t be too difficult (or overly expensive) to buy back the short puts as VXX approaches $29.

Keep in mind, this isn’t the sort of method most of us should use for trading VXX.  If you want to use VXX to hedge (or speculate due to event risk), buying straight up calls or a call spread has defined risk.  For keeping costs low, a call spread is the better choice.

For instance, the January 32-37 call spread (with VXX around $31.50) only costs about $1.  That’s a breakeven point of $33, and a max gain of $4.  You can only lose the $1 you spent in premium, so your payout ratio is 4:1.  That’s a reasonably cheap way to hedge, and balances your payoff with reasonable costs.

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Source: Investors Alley

Options, Technology

A Big Volatility Trade To End The Year

2017 isn’t exactly going out with a bang – but it’s also not ending with a whimper either.  We’re actually seeing higher levels of volatility than what we’ve experienced most of the year.  Granted, volatility (as measured by the VIX) has been historically low in recent months.  However, the end of the year so far is proving to be a bit more interesting.

First off, we’re seeing a fairly substantial rotation out of tech stocks and into financials and other sectors.  Tech stocks have been driving the market this year and valuations have definitely gotten a bit frothy.  Moreover, financials should see benefits from higher interest rates coming in 2018 and beyond.

Tech has been hit pretty hard – especially the chip stocks – and this may have caught some investors off guard.  Surprising investors is certainly one way to get volatility to go higher.  The Semiconductor Index chart below makes this pretty clear.

Of course, there are several other factors contributing to relatively higher VIX levels, most of them political in nature.  The tax reform bill has been front and center in terms of financial news.  Who knows what the final version of the bill will end up looking like, but it seems pretty certain it will be a boon for corporations.  Any serious issues with the bill (eventually) passing could certainly add to market volatility.

There’s also the threat of government shutdown, although by the time you read this, I predict a short-term deal will already be in place.

Finally, there’s the Mueller investigation regarding the current administration and Russian interference with the election.  This case seems to have some legs to it, although the impact on the stock market remains nebulous at best.  Even if high ranking members of the administration are forced to resign, it really shouldn’t change much in terms of economics.  Once again, I expect a business-favorable tax plan to pass regardless.

SEE ALSO: This “21st Century Pension Plan” Pays You Income for LIFE

Keep in mind, political news tends to create short-term volatility.  Long-term changes in volatility are mostly the result of economics.  A political scandal is generally a short-term situation.  A tax bill is long-term.

That being said, plenty of big VIX trades are hitting the wire – and the majority of them are focused on the VIX moving higher.  Of course the VIX is the main instrument used for hedging, so it stands to reason that most big trades in VIX options would be on the long side.  Nevertheless, you can tell a lot of what hedgers are thinking about risk levels by what strikes they use.

For instance, a sizeable trader recently purchased 50,000 January VIX 20 calls for $0.50. That’s a $2.5 million bet that the VIX breaks above $20.50 by mid-January.  Of course for that kind of money, this is clearly a hedge.  The VIX hasn’t been above 20 in over a year – and hasn’t even been particularly close this year.

As someone who is generally a seller of volatility, I don’t like spending a lot of money going long VIX whether it’s a hedge or a speculative bet.  As such, I’d prefer to do a long call spread rather than buying calls straight up.  As an example, if you think the VIX is going to move higher or want to hedge, you could buy the January 13-18 call spread (buying the 13, selling the 18) for about $0.80.

It’s a good way to keep your costs low while also providing decent upside potential.  A max loss of $0.80 with a max gain of $4.20 (if VIX is at $18 or above by January expiration) is certainly a good ratio to have on a call spread.

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Source: Investors Alley 

ETF

How to Generate Income While Doing Nothing

In the investing world, generating income typically refers to slow, predictable payments from an investment over time. It may be a stock paying dividends or a bond with coupon payments. With options, generating income usually refers to selling options and collecting premium from option buyers.

The most common income generating strategy using options is the covered call. Well, technically a covered call includes a stock and an option. By selling a call against long stock you could potentially earn income from the stock (dividend payments) and the short option (premium). The two-fold income generation of a covered call strategy is one of the reasons it’s so widely used.

Of course, there are many different way you can generate income from options strategies. An options income strategy can range from obscenely complex to super simple.  Covered calls are generally considered simple, though they can be utilized in a more complex fashion if you choose.

Another income generating strategy used mostly by institutions is the short straddle. A short straddle is when a trader sells a call and put at the same strike in the same expiration. This trade is used when the seller believes the underlying asset is going to remain in a certain trading range.

Now, retail and smaller traders should never sell a straddle. It’s too risky and margin requirements are too high. However, seeing what straddles are being sold by the big players can be a good way to analyze assets.

For instance, if a bunch of short straddles trade in a certain stock or ETF, then someone with a lot of money believes that asset will be range-bound until expiration. In fact, this just recently occurred in the Utilities Select Sector SPDR ETF (NYSE: XLU).

Utilities are already known to be a slow moving asset. So, if someone with big bucks is selling straddles in utilities, you can bet the range is going to be extremely tight. In this case, the straddles don’t expire until January of 2019 – so utilities may remain in a narrow range for all of 2018.

To be specific, with XLU at around $56, the trader sold 1,100 of the January 2019 56 straddles for $7.37 per straddle. The trader collects over $800,000 on the trade and keeps it if XLU remains between roughly $48 and $64.

Okay, so this trade is not for the average investor – like I said, margin requirements would be insane. However, it really isn’t that risky. XLU doesn’t move that much to begin with and the trader has a very wide range to work with. The chance that utilities go crazy or collapse is basically zero. That’s not to say this trade is a guaranteed winner – not by any stretch – but I get what the trader is thinking.

If this trade idea appeals to you but you don’t want the risk or the margin requirements, you can pretty easily solve the situation by purchasing a call and put outside the short straddle. (In other words, go long an options strangle.)

Let’s say you purchased the 47 put for $1.25 and the 65 call for $0.50 in the January 2019 expiration. You’ve capped your risk (and your margin needed) and it only cost you $1.75 (off the $7.37 from the short straddle). So you’re still making decent money but you’ve substantially cut your risk. By the way, this short straddle surrounded by a long strangle has a name… the iron butterfly, and it’s a fairly popular strategy to use.

  [FREE REPORT] Options Income Blueprint: 3 Proven Strategies to Earn More Cash Today Discover how to grab $577 to $2,175 every 7 days even if you have a small brokerage account or little experience... And it's as simple as using these 3 proven trading strategies for earning extra cash. They’re revealed in my new ebook, Options Income Blueprint: 3 Proven Strategies to Earn Extra Cash Today. You can get it right now absolutely FREE. Click here right now for your free copy and to start pulling in up to $2,175 in extra income every week.

Source: Investors Alley

ETF

Here’s Why This ETF Has Become Popular with Retirement Investors

One of the biggest changes to investing in recent times is the vast amount of choices available to investors of any size. The advent of ETFs has opened up markets and assets which almost no one could previously access – especially if you didn’t have a lot of money to invest.

It used to be you could invest in individual stocks, bonds, or mutual funds. Now, through ETFs, you can invest in everything from palladium to Thailand to foreign junk bonds. There are multiple ETFs available for a variety of strategies and investing philosophies as well (value, growth, income, etc.). Plus, these funds are available to just about anyone with a brokerage account.

The popularity of ETFs has also shined a light on asset class investing as a primary means of long-term/retirement strategies. Instead of just buying stock and bonds, many portfolios now are diversified into 10 to 15 (or more) asset classes, such as foreign government bonds, REITs, and commodities.

One of the most popular asset classes to invest in over the last decade has been emerging markets. This class includes countries like China, India, and Brazil. They tend to be countries which can experience high growth but also high risk (with China being the perfect example).

Related: 2 Stocks to Buy for the Death of the Combustion Engine

With major US indexes at or near all-time highs, and valuations reaching very frothy levels, investors may be turning to emerging markets for growth in the final weeks of the year. In fact, iShares MSCI Emerging Market ETF (NYSE: EEM) is seeing some massive bullish activity in its options. EEM is the most popular emerging market fund and one of the most popular ETFs period.

This past week, a trader made a gigantic bullish bet in EEM options expiring on December 15th. This three-way trade involved buying a call spread and partially financing it by selling puts. (By the way, that’s one of my favorite options strategies, but you have to a sizeable margin account to do it because of the naked short puts.)

With EEM at $46.75, the trader purchased the December 15th 47-48.50 call spread 102,000 times, while simultaneously selling 102,000 of the 44.5 puts in the same expiration. Normally, the call spread would cost $0.58, but selling the puts for $0.33 brought the total spread cost down to $0.25.

With a total cost of $0.25, the breakeven point for the trade is $47.25 and max gain is at $48.50. The dollar gain at $48.50 would be a whopping $12.75 million. On the flip side, if EEM closes below $47 on December 15th, the trade would cost $2.55 million (in premium spent) down to $44.50. Below $44.50, the loss potential rises as the price goes lower.

Of course, EEM isn’t an especially volatile ETF, so the chance of it plunging below $44.50 in the next 6 weeks is extremely low. Still, this is clearly a lot of money to bet on EEM going up. Losing $2.5 million if the ETF does nothing between now and then is a real possibility.

The trader likely believes investors will be looking at emerging markets to close out the year. Perhaps some in the investment community believe the US and other developed nations have peaked for the year.

Regardless, if you like the idea of taking a low risk bet on EEM, you can simply replicate the call spread portion of the trade. Since most investors won’t be trading 100,000-lots, paying $0.58 for $0.92 in upside is a perfectly reasonable thing to do.

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Options

Railroads Are Still A Good Investment. Here’s Why and Where to Put Your Money

Let me tell you about an exciting new transportation technology. It’s ground-breaking. It’s game-changing. The entire face of shipping could be altered. It’s… er… railroads. Okay, so maybe not so exciting. Or new.

In fact, since the first major railroads were built around 200 years ago in the US, not much has changed. Trains are now powered by diesel or electric locomotives instead of steam – but the basic operation is essentially the same. More importantly, railroads are probably still the most cost effective way to transport raw materials and heavy goods on land.

Of course raw materials are then turned into construction materials or sources of fuel (which then also may be transported by rail). It’s these materials which help the economy function and expand. Without railways, the cost for these materials could be much higher – which would be passed on to the buyers.

As such, railroads tend to do well when the economy is doing well. They also can be a decent gauge of future economic activity. If an investor believes the economy is going to improve, one way to capitalize from the scenario can be investing in railroad companies.

In the US, the largest railroad company is Union Pacific(NYSE: UNP) with a market cap of $90 billion. UNP was founded all the way back in 1862. With its long history, it’s probably not a surprise the company’s rail network consists of over 32,000 miles.

If you want to invest in a growing US economy, investing in UNP is a reasonable way to do so. Moreover, at least one trader is placing a massive options bet on the company thriving over the coming year.

The trade I’m referring to is a January 2019 call spread, which traded a whopping 60,000 times. The trader purchased the 130 strike and sold the 160 strike for a total cost of $3.56. That means the trade breaks even at $133.56 by January 2019 expiration.

With the stock around $111 at the time of the trade, this is very clearly a bullish bet on UNP. In fact, the trader spent $21 million on the massive spread. Of course, max gain on the spread is also $158 million, so there’s definitely some serious upside to be had.

Personally, I like using UNP as a proxy for the economy. And, there are plenty of reasons to believe the economy is going to continue to grow. However, I’d recommend a more affordable trade.

The June 2018 125-145 call spread is a bit cheaper at $2.50 and is closer to the current stock price. You are sacrificing 6 months of time, but there’s still plenty of upside available. Breakeven occurs at $127.50, so only about $15 higher than where we are now. Plus, you can still earn $17.50 at max gain.

Buying very long-term options is nice if you can afford it, but you definitely pay up for the time. By choosing an expiration six months earlier, we can do a similar trade for $1 cheaper and 5 strikes closer to the stock price.

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Source: Investors Alley