One question I’d like to address that I often receive is:
Can I use options to trade for biotech breakouts?
Technical Answer: Yes
My Answer: Maybe
Read on to find out why it sometimes doesn’t make sense to use options for biotech breakouts, as well as, when it’s the absolute best time to buy options during these catalyst events.
Trading Options on Biotech Stocks
If you’re wondering how you can make money trading options in biotech stocks… it’s pretty simple. I’m still using the catalyst runup strategy.
However, rather than buying stock, I’m buying call options instead. The reason being: options provide leverage and can be very lucrative.
That said, let’s walk through how to use options for trading biotech stocks.
You Can Use Options to Trade Biotech Stocks
If you don’t know yet, we’re looking to get into the stock or options ahead of the catalyst event… and sell the day before the company is expected to announce data.
You see, if you hold stock or call options into the event… you could lose a lot in the position. Basically, it’s a 50-50 event, we don’t know what the company could say when they present their data.
Now, you’re probably wondering, “Well Kyle, how could we find these events?”
If you’ve been following my trade, or my lessons on Facebook and YouTube… you probably know I like to use BioPharmCatalyst to spot upcoming catalyst events in biotech stocks.
Now, I’ll also look to Finviz and screen for biotech stocks to potentially trade based on a pattern… of course, I want to pair the pattern with the upcoming catalyst.
For example, here’s a look at one stock that I sent out to clients in my weekly FDA Insider Weekly Watchlist.
Achieve Life Sciences (ACHV)
Catalyst Dates: Phase 2b data due out mid 2019. Likely May-June
Buy Zone: $3.80 to $4.20
Profit Zone: $5.00 or higher
Stop Zone: $3.25 or below
(Looking for biotech stocks to trade? Click here to get my weekly watchlist and so much more)
That said, I’m sticking with my same process… however, when I’m looking for options… it takes a bit of creativity.
The first thing you need to do is see whether a biotech stock is optionable, and Finviz allows you to do that.
Just make sure to click on the dropdown menu where it says “Option/Short” and select “Optionable”.
Finding the Right Options Contracts on Biotech Stocks
Now, many biotechs don’t have options chains because they must meet stringent requirements (that’s something Jeff Bishop – head options trader at Raging Bull – mentioned in his post on trading options on recent IPOs).
So if a biotech stock with a catalyst and bullish chart pattern isn’t optionable… well, you’re going to have to trade the stock if you want to take part in the catalyst runup trade.
If you’re able to find biotech stocks that are optionable… chances are they’re super expensive due to the volatility premium. You see, the market knows that a catalyst could send a biotech stock much higher… or much lower. That said, the options market prices in these events.
For example, Cymabay Therapeutics (CBAY) is expected to announce Phase 2 data in June…
Here’s what I sent out to FDA Insider clients:
Cymabay Therapeutics (CBAY)
Catalyst Dates: Phase 2 data to be announced in 2Q (likely June)
Buy Zone: $12.00 to $12.75
Profit Zone: $14.00 or higher
Stop Zone: $11.50 or below
(Looking for swing trades? I send out a weekly watchlist to members and let them know my moves in these stocks. Click here to get started)
Now, when you look to the options chain… the market is pricing in this event.
If you look at the $15 options… the implied volatility is at 112.89%. Keep in mind, these are in annualized terms, so that means the options market is pricing in a daily move of ~7%.
That said, you have to understand how options work… before you go out and start randomly buying options on biotech stocks… because you could be paying a hefty premium.
A Simple Way to Check if Options Are too Expensive
For example, if you look at the options chain in CBAY… let’s say you bought the $15 call options for 90 cents… well, the stock is currently trading at $12.60.
That said, the stock would need to get to at least $15.90 for you to break even by the expiration date in June… in other words, the stock needs to runup over 25% in just about a month.
Now, using this method allows you to figure out whether options are expensive or not.
Basically, if you’re buying calls… you add the strike price to the premium paid, as well as your commission fee to figure out where you need the stock to go to break even on your position.
With CBAY, those options are pretty expensive cause the stock needs to move over 26% in just a month before you start to generate some profits.
Options on Biotech Stocks Could Be Lucrative
Now, trading options on biotech could be very lucrative if you can find a stock where the market doesn’t expect data coming out.
You see, if the market isn’t expecting an event… it’s not pricing in the volatility around that event.
For example, Iovance Biotherapeutics (IOVA) was one stock where the market wasn’t really pricing in a catalyst event.
The company reported interim data from its ongoing clinical trials for two treatments in its pipeline.
The $12.5 call options were trading for about a nickel since the stock was trading around $11 at the time.
In other words, those options were out of the money… and traders didn’t think IOVA could get above $12.50.
If you bought those options for a nickel… they were pretty cheap. The stock just needed to move around 10% for you to start making money.
Now, here’s a look at the daily chart in IOVA.
The stock gapped up and closed above $15. Consequently, those $12.50 call options went deep in the money… and skyrocketed from $0.05 to around $3.
The key here is to scan for biotech stocks with a bullish chart pattern… and look for potential catalysts that the market is not seeing clearly.
Now, if you’re looking for options trades, not just on biotech stocks, click here to get started.[Ed.note: Kyle Dennis runs BiotechBreakouts.com. He is an event-based trader, who prefers low-priced and small-cap biotech stocks.
Source: BiotechBreakouts.com | Original Link