NIO – Covered Short Strangle/Straddle Play

Here is an example of an actual covered short straddle and later strangle strategy that was carried out over a few weeks, and actually still continues. A “STRANGLE” is when there is a CALL and a PUT sold on each side of a strike price with a little bit of space in between. When the CALL and PUT are at the exact same price, then the name it’s given is a straddle.

This example includes some adjustment right after it got started, but the goal is always profit, and an “option trade” is not always about long term investing, but more about obtaining an almost guaranteed profit.

If one looks at where this company is heading and the speed at which it’s climbing, maybe in the end, it was not the best possible play, but when you’re trying to read the future, the emptiness looking back at you from the void is difficult to read, and setting up profitable plays is never a “sure thing” at any time. Making short term option plays amidst holding a long term position is something I enjoy doing because it allows the flexibility to transition into a long term play should it work out the way you want, or cut it short when the goals are accomplished.

The company is headquartered in Shanghai, led by William Li they specialize in designing and developing electric vehicles. The company is also involved in the FIA Formula E Championship, the first single-seater, all-electric racing series.

While some may see this company as a distant competitor to giants like Tesla, others may see it as a very promising company not only in the Chinese EV market, but possibly in the world market in days to come. While NIO is still in early stages, some may draw comparisons to other players with the the struggles to become profitable, exceed innovation expectations and break through the barriers that every automaker has had to overcome in it’s history.

Why NIO?

To begin, I think it’s important to explain why I chose NIO as a candidate to invest in, and place options on. There are important criteria for me to choose a stock to invest in, and while the position does not have to fulfill all of the points, I need to see most of them or I do not want to participate.

  • It’s a large enough company to consider “real” and not pure start up. Currently their market cap is about 66 billion. I am pretty sure when I began my interest in them it was only about 20 billion, but that to me was just fine.
  • In addition to exposure to monthly options, this also has option expiry dates every single week. This is important for selecting the right dates for option plays, and not being stuck with a once a month expiry date.
  • It’s a volatile stock. Now, this may be something others shy away from because they don’t like the 5% moves from one day to the next, or possible 10-20% drops or gains. For my liking, this is precisely what makes a stock a good option target.
  • Liquidity is another important factor that NIO hits on, and it’s important because when you want to move in, or move out of something, it’s good to know there’s a wide market for it and that you won’t be stuck waiting for a bid to sell your position.
  • I could go on and on, and there are some factors NIO didn’t hit, but because of the above, and the story of William Li is so compelling, I decided to get involved.

This position with NIO is independent of the initial investment. I always view different share blocks as if they are independent of one another. This allows focusing on the move in a focused and precise way. The whole purpose of this “play” was to use the options in a way to ensure a profitable outcome.

Step 1 – get “PUT” into some shares

October 21st (weds) I began the play with a short strangle. This is when the strangle is a pretty Narrow gap, and very likely to execute on one side.

This shows the initiating transactions that began the saga.

10/21 Sell 10 Oct23 $30 Calls @ $0.25* $243
10/21 Sell 10 Oct23 $28 Puts @ $0.64$633
10/26 Assigned 1000 NIO @ $28$28,000
read how calculations for option contracts are priced
* contract closed to avoid assignment, or to roll to next period.

In the above Table we start with a Call a little ways out of the money, if it hit $30, I would have possibly had to sell some shares I already have, but the goal was to be “PUT” or assigned a new block of shares on Friday at $28 per share. It actually takes place on Friday, but gets fully assigned and posted on Monday the 26th.

As the story continues, we begin to go through week 2, and to kick off the week, I put on a short straddle. It’s a covered short straddle because since I just bought the shares, if they sell, the option premiums is where the profits are. I actually jumped into these positions on the Friday, knowing that I was going to get assigned anyway.

10/23 Sell 10 Oct30 $28 Calls @ $0.67
Bought back to roll forward @ $0.44
10/23 Sell 10 Oct/30 $28 Puts @ $1.675
Bought back to roll forward @ $1.43
10/28 Sell 10 11/13 $28 Calls @ $1.80$1,793
10/28 Sell 10 11/13 $28 Puts @ $2.81$2,803*
* it expired worthless, a 100% gain for this option sale

** The roll on Oct 28th was performed because both options were in a profit position, but there was a very attractive price action for November 13th that I thought was worth swapping into. My “gut” feeling was that this was going to explode to the upside again, little did I know how much. As it turns out, this section of trades has turned out fine. A total of $6,930 in CREDITS has been received, while only $1,882 in DEBITS had to be paid out. So there was a net profit during this segment of $5,048.

As is sometimes the case, we can squeeze a little bit more out of the play when something rockets upward, but the transaction sizes become a little bigger, and for some, this can scare them away. When you realize that this sizeable transaction is sort of like a deep protection against loss, then it’s easier to carry out.

11/11 Roll the DEEP ITM CALL
Sell 10 $28 Dec4 Calls @ $13.85
Buy 10 Dec4 $28 Calls @ $13.30
Sell 10 Dec4 $30 Puts @ $0.71$703

On November 11th, NIO was sitting somewhere around $40-$42 during these transactions. So the $28 call was way deep “in the money” or ITM. If left to execute, these shares would be sold at $28 on Nov 13th, and the whole play is over. I decided to push it forward a little, to try to continue the production and while the play isn’t totally over, it may be on Dec 4th when this next set of options is set to expire.

In order to try to get a little more out of the “roll” I sold the PUTs a little higher than the CALLs. I have never seen anything in the books and documents I read that would justify the sense of this, however my feeling is that we’re probably not coming back down to the $30s again. If we do, I would be comfortable rolling those PUTs forward, or even buying them if need be because the $28s are probably going to sell anyway. Right now, this appears to be an additional gain of $1240 that would be realized on Dec 4th should the price close above $30, and we don’t “roll” again.

I can’t guarantee that near December 4th, I would roll forward again, or let it close. It will all come down to whether the pricing at that time allows for another gain worth waiting 2 or 3 weeks for. The last roll was from a 11/13 date to 12/04 which is 3 weeks. I am not against doing the same thing if it can deliver a payout worth tying up the capital, and leaving the risk of more buying on the table.

At this point, there are details left to work out, but the overall position is now at this point:

Realized gains from option sales$5,914
Potential Option Gains$1,240
Pending Sale of Shares @ $28 would be a $28,000 credit, but it only offsets the initial debit from 10/26 of $28,000.$0
The shares will be a no gain since the contract to sell them is at the same price they were bought back on 10/26 due to the assignment.

What if Scenarios

One should consider the potential downside as well. This can come to fruition, and one needs to know about it. So lets consider some “what ifs”

What if the price falls from today’s roughly $49 all the way down to $30 on Dec 4th?
If this should happen, the Call that was sold for $13,843 would drop to a value of about $2,000. This would be a good thing, since we could buy it back at a profit, and sell another one three weeks out for a great gain. The other thing that would happen if it could hold $30 or higher, is the PUT would expire worthless, and the $703 transaction would end up being worth $0, and be 100% profitable.

What if the price dropped to $26, below both targets by Dec 4th?
This is not a bad scenario either, because then the huge option premium of $13,843 would expire worthless, being 100% profitable, and the $30 PUT would be something to deal with. Either those shares would have to be bought at $30, thus inflating the amount of shares on hand by another 1000, or, one could “roll” that contract forward another couple weeks, it would cost about $4,000 to close the contract, but a new one would be opened for much more than that given the volatility rating we’d be looking at should this actually happen. Most likely, it would be a $1,000 net credit should that happen.

At any rate, the date is now November 20th, there’s 14 days from now until the closing of the contracts, and knowing NIO and the crazy moves it can make from day to day, there’s a great deal that can happen between now and then. This is far from over!