Hunting for Straddle Plays

 | Apr 17, 2014 | 3:19 PM EDT  | Comments
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Stock quotes in this article:

wres

,

mpo

,

fang

,

uthr

,

praa

,

kmb

It's a Friday/Thursday kind of day. No markets tomorrow, so we have an early end to the trading week. For those chatting out the lackluster Volatility Index (VIX), make sure to include a few factors in the analysis that reach beyond complacency or a market headed higher.

First, we are sitting in front of a three-day weekend, so traders often look to discount the time decay over the next three days as quickly as they can. Second, several big names reported last night and have seen those unknowns dissipate. The big drop in the IV on names like Google (GOOG, GOOGL), IBM (IBM) and American Express (AXP) will have a psychological impact on the S&P 500 as well since these three hold fairly high places in the group.

Finally, it is options expiration for April. Many positions are being rolled or unwound and some speculation is coming out of the market. That too will weigh on volatility. Yes, the market is higher, but don't count me as one who thinks it will trend much higher into the close -- I believe we will cut the gains in half.

With volatility lower today, this may be a good time to hunt for straddle plays. Straddle plays, going long both a call and put at the same strike price, is a straddle looking for either a big move in price in either direction, or a big move in volatility. A stock can change very little in price and a straddle can still increase in value if the implied volatility of the underlying options (and usually the stock) increase. I've attached a chart with stocks trading in a relatively tight/coiled pattern, as outlined by the blue box.

A few names -- like Warren Resources (WRES), Midstates Petroleum (MPO) and Diamondback Energy (FANG) -- have already started their breakouts. WRES is certainly too late to chase, but a good example of how quickly a stock can move once it is outside of resistance. Several of these names are just as likely to break down as they are to break higher. If you aren't an options trader, simply setting alerts slightly above resistance or below support is a great way to find trades intraday, or even on a closing basis.

Straddle Charts
Source: StockCharts.com

A few of my favorite straddle plays here are United Therapeutics (UTHR), Portfolio Recovery Associates (PRAA) and Kimberly-Clark (KMB), but I'll set alerts for the whole list and see what opportunities come about later today or even next week.

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