Call Bull Spread On Potash
I love earnings season. It’s a great time to capitalize on the craziness of the market. It also gives us an opportunity to profit by smartly trading options. If you remember back in October I pointed out a trade. One of the solar companies was going to announce their earnings. Most of their competitors had announced record results driving the stocks significantly higher. We were right and people made money.
I see another trade like that setting up right now. . . but in a different industry.
Now, this trade isn’t for the faint of heart. It’s risky. But the profits could be nice as well. First a little background.
We all know how well commodities have done over the last few months and years. To add fuel to the fire, China continues to drive demand for food-related commodities. News of hoarding grains like rice and corn are also floating around.
Needless to say, everyone loves the agricultural commodities.
As a result, the companies providing products and services to the agricultural industry are thriving. Just look at DuPont (DD). The company announced earnings Tuesday. The strength of their business was found in agriculture. First quarter profits were up 26% . . . all due to increasing demand for its seed products and agricultural chemicals.
Now the stock is down a bit, but that’s because they indicated product sales were slow in other groups, namely automotive and construction.
Yet another signpost.
Monsanto (MON), the giant agricultural products supplier announced their earnings on April 2. They had previously raised guidance in March. So everyone knows the agricultural products industry is white hot. In the earnings announcement management highlighted expectations of a 58% to 63% earnings growth this year! When Monsanto earnings hit the tape the stock rallied.
Monsanto had traded as low as $105 on the day of the announcement. It hit $124 over the next few days . . . and continued higher.
So, what’s next.
Tomorrow, April 24, Potash (POT) is going to announce earnings at 1:00 pm eastern time. If you trade this stock just right, you might make some money.
Now for those of you who don’t know, Potash is a very interesting company. They’re the world’s largest potash company. They’re also the third largest phosphate producer and the second largest nitrogen producer in the world. All of these products are needed in the agricultural industry.
The company has been selling these agricultural products since 1953, and it looks like they’re on track for a record year.
Some interesting news.
Just a few days ago Potash announced a significant price increase of their products to China. Prices went up more than $400 per ton on “red standard grade potash.” Now this isn’t the first price increase for the company.
Nope. A few days earlier on April 9th, they raised rates for North America. And a few days prior to that, they raised prices in South East Asia and Latin America. Basically prices are up around the world.
Increasing prices is always difficult. You run the risk of customers either not buying your product or searching for a new supplier. What Potash basically said was “we don’t care.”
Like the Godfather they made ‘em an offer they couldn’t refuse.
Now think about this for a moment. If you can push through a major price increase on your best customers, then you have substantial power in price negotiations. This means there’s more demand than supply in the market place.
And since Potash controls the supply, they control the price.
So what does this all boil down to? I’m trying to figure out if Potash is going to make their numbers on Thursday. Something tells me they will. I think not only will they make their numbers; they’ll beat ‘em.
But there’s a risk.
Lots of people already see what we see. This big home run may already be priced into the stock. If that’s the case, the stock might go nowhere on the news. It might even go down. And of course there’s the wild card. You never know what management is going to say about future expectations. They could throw everyone a curveball and the stock might get destroyed.
I find it hard to believe that will happen. . . . but you never know.
The last time Potash announced earnings was back in January. The stock traded as low as $105. A few days later it had rallied to $144. Of course they announced record revenue, EBITDA, and profits.
So how can we profit this time around?
Buying calls on Potash is one way to profit if the stock jumps in value. I looked at the short term options. Right now, you can buy May calls on Potash with a strike of $210 for about $15 each. If you put on this trade, you’d profit when the stock rallied above $225. That’s a $28 point move in the stock.
I know what you’re thinking, these options are expensive. They are. There’s an advanced options trading technique that can lower your cost dramatically, but it also limits your profits. It’s known as a Call Bull Spread.
First you buy a close to the money call option and at the same time sell a call option at a higher strike price. Your maximum profit would occur when the stock trades above the higher strike price. It’s a way to potentially gather some profits, but remember, if the stock doesn’t move in the right direction, you can lose your entire investment.
As with any option trade there are risks. Make sure you’re comfortable with and fully understand the risks and rewards of every trade – before you buy a position.
Category: Options Trading
