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Option Tip – Tuesday, November 01, 2011
Lululemon Athletica Bull-Call Spreads



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The Option Tip is with Lululemon which is showing Bullish Technical’s providing a Bull-Call Spread!



LULU store

The stock is standing strong and squeezing higher even in a weak market.

The U.S. equities market took a well-deserved breather yesterday, as traders took some money off the table following the historic run experienced in October.

On a day like yesterday, where trading screens are a sea of red, relative strength plays are easy to spot. Essentially any stock that is still in the green is exhibiting relative strength or outperforming the market, which makes this option tip possible.

The rationale behind seeking relative strength goes something like this — if the stock is able to rise in a weak tape, it is all the more likely to lead in a strong tape.

One such stock exhibiting strength today is Lululemon Athletica Inc.(NASDAQ: LULU). Suppose we want to set ourselves up for a continued rise into year-end for this athletic apparel company. In July, LULU reached an all-time high just south of $65, so we can use that as our potential target and the option tip.

Business Summary of Lululemon Athletic

Lululemon Athletica Inc. (LULU), together with its subsidiaries engages in the design, manufacture, and distribution of athletic apparel and accessories for women, men, and female youth primarily in Canada, the United States, and Australia.

christine day - ceo of lulu

Its apparel assortments include fitness pants, shorts, tops, and jackets for healthy lifestyle activities, such as yoga, running, and general fitness. The company’s fitness-related accessories comprise bags, socks, underwear, yoga mats, instructional yoga DVDs, and water bottles. It sells its products through its retail stores; independent franchises; and a network of wholesale accounts, such as yoga studios, health clubs, and fitness centers, as well as directly to consumers through e-commerce.

Photo: Christine Day, CEO-designate of Lululemon Athletica

As of May 1, 2011, the company had 142 corporate-owned and franchise stores under the lululemon athletica and ivivva athletica brand names. Lululemon Athletica Inc. was founded in 1998 and is based in Vancouver, Canada.

Lululemon Athletica closed Monday's trading session at $56.48. In the past year, the stock has hit a 52-week low of $21.97 and 52-week high of $64.49. LULU stock has been showing support around $55.73 and resistance in the $59.61 range. Technical indicators for the stock are Bullish.

110111-LULU-graph



The Beta for Lululemon Athletica Inc.

Lululemon Athletica Inc. (LULU) currently has a beta of 2.73.

Beta (or beta coefficient) is the term for the volatility, or systematic risk, of a security in comparison to the market as a whole. It is an often overlooked yet important metric.

For investors who don't mind added volatility and price swings, knowing the beta of a security is a good tool to judge what investments might provide a greater return on investment. This can work for both sides of a trade (bullish or bearish) as well. These types of stocks are definitely not for the conservative investor.

Beta is calculated in numerical terms. For instance, if a security has a beta of 1.00, this indicates that the security will move in tandem with the market on an even basis. As an example, a security with a beta of 1.3 indicates that the security is 30% more volatile than the overall market. If a beta is less than 1.00 means that the security moves less than the overall market does.

Many utility companies have a beta of less than 1.00, while technology stocks tend to be over 1.00.

Lululemon Athletica certainly fits this pattern, which has a high beta that could provide very nice returns for the investor, therefore supporting the option tip.

Analysts Approach

On October 25th, 2011, Janney Mntgmy Scott initiated coverage on Lululemon Athletica with a rating of Neutral and a price target of $57.

The Option Tip

Instead of buying the stock in the current trading area of $57, a cheaper, limited-risk way to play is by buying a bull-call spread. The potential risk is limited to the initial debit paid to enter the trade, and the max reward is limited to the width of the spread minus the debit.

One call spread worth considering for bullish exposure on LULU is the Dec 60-65 call spread. To enter the position, you would “buy to open” the LULU Dec 60 Call while at the same time “selling to open” the LULU Dec 65 Call.

If entered at around a $1.90 net debit (the long $60 calls are currently trading at $3.50 and the short $65 calls are currently at $1.60), the risk would be limited to $190, and the reward would max out at $310.

A Bull-call Spread is an options strategy that involves purchasing call options at a specific strike price while also selling the same number of calls of the same asset and expiration date but at a higher strike. A bull call spread is used when a moderate rise in the price of the underlying asset is expected. The maximum profit in this strategy is the difference between the strike prices of the long and short options, less the net cost of options. Most often, bull call spreads are vertical spreads, and is certainly beneficial to this option tip.


Alternative Option Tip Play

For a hedged play on Lululemon Athletica (LULU), look at the Jan '12 $57.50 covered call for a net debit in the $52.04 area. That is also the break-even stock price for this trade. This covered call has a duration of 82 days, provides 10.18% downside protection and an assigned return rate of 10.49% for an annualized return rate of 46.70% (for comparison purposes only).

Another option tip which is a lower-cost hedged play for Lululemon Athletica (LULU), would be to use a longer term call option in place of the covered call stock purchase. To use this strategy look at going long the Lululemon Athletica (LULU) Jan '13 $20.00 call and selling the Jan '12 $57.50 call for a total debit of $33.35. The trade has a lifespan of 82 days and would provide 7.92% downside protection and an assigned return rate of 12.44% for an annualized return rate of 55% (for comparison purposes only).

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