A Possible Triple Digit Profit in This Cloud Company
Trade summary: A bull call spread in Cloudflare, Inc. (NYSE: NET) using the October $40 call option which can be bought for about $1.60 and the October $45 call could be sold for about $0.50. This trade would cost $1.10 to open, or $110 since each contract covers 100 shares of stock.
In this trade, the maximum loss would be equal to the amount spent to open the trade, or $110. The maximum gain is $390 per contract. That is a potential gain of about 254% based on the amount risked in the trade.
Now, let’s look at the details.
Cloud stocks are among the hottest in the stock market right now and this could benefit NET which recently announced on Business Wire that “it has partnered with the Internet Archive, a nonprofit digital library that runs a digital archive of the World Wide Web called the Wayback Machine.
By partnering with the Internet Archive, Cloudflare is strengthening its Always Online solution that makes sites available when their origin servers are down and keeps the Internet functioning for users globally.
Launched in 2010, Always Online is like insurance for websites. It caches a static version of websites, so, if for any reason, your web host or service provider goes down, it will kick in to keep your site online.
Without it, a website risks reputation damage, a decreased user experience and even a drop in search ranking if the website’s origin goes offline, experiences a timeout, or otherwise breaks. Now, Cloudflare’s Always Online service will fetch the most recently archived version of a site from the Internet Archive, an additional safeguard, if one cannot be found in the local cache. To do this, the Internet Archive uses the same crawling infrastructure that has allowed its Wayback Machine to archive over 465 billion web pages to date.
“The Internet Archive’s Wayback Machine has an impressive infrastructure that can archive the web at scale,” said Matthew Prince, co-founder and CEO of Cloudflare. “By working together, we can take another step toward making the Internet more resilient by stopping server issues for our customers and in turn from interrupting businesses and users online.”
The Internet Archive’s Wayback Machine has been archiving the public web since 1996 and to date, has preserved and made available more than 468 billion web pages and more than 45 petabytes of information. Cloudflare customers can easily upgrade to the new Always Online service with one click in the Cloudflare dashboard. This will allow the Wayback Machine to crawl and archive its website at regular intervals.
“Through our partnership with Cloudflare, we are learning about, and archiving, web pages we might not have otherwise known about, and by integrating with Cloudflare’s Always Online service, archives of those pages are available to people trying to access them if they become unavailable via the live web,” said Mark Graham, Director of the Wayback Machine at the Internet Archive.”
This news comes as the stock is bouncing off recent lows.
The chart using weekly data shows all of the stock’s trading history. In this chart, the recent decline is consistent with a normal pullback.
A Specific Trade for NET
For NET, the October options allow a trader to gain exposure to the stock. This trade will be open for about six weeks and allows for traders to turn over capital quickly, potentially compounding gains several times a year.
An October $40 call option can be bought for about $1.60 and the October $45 call could be sold for about $0.50. This trade would cost $1.10 to open, or $110 since each contract covers 100 shares of stock.
The amount paid to enter the trade is the largest possible loss on the trade. This is generally true whenever a trader is creating a debit to enter an options trade. “Creating a debit” means there is a cost to enter the trade. You could create a debit by simply buying puts or calls to open a directional trade.
In this trade, the maximum loss would be equal to the amount spent to open the trade, or $110.
The maximum gain on the trade is equal to the difference in exercise prices less the amount of the premium paid to open the trade.
For this trade in NET, the maximum gain is $390 ($45- $40= $5; 5- $1.10 = $3.90). This represents $390 per contract since each contract covers 100 shares.
Most brokers will require minimum trading capital equal to the risk on the trade, or $110 to open this trade.
That is a potential gain of about 254% based on the amount risked in the trade. The trade could be closed early if the maximum gain is realized before the options expire.
A Trade for Short Term Bulls
As with the ownership of any stock, buying NET could require a significant amount of capital and exposes the investor to standard risks of owning a stock.
To reduce the risks of a trade, an investor could purchase a call option. This allows them to benefit from upside moves in the stock while limiting risk to the amount paid for the options. However, buying a call option can also require a significant amount of capital and includes the risk of a 100% loss.
Whenever an option is bought, the maximum risk is always equal to 100% of the amount of spent to purchase the option. Since options cost significantly less than a stock, the risk in dollar terms will be relatively small to own an option.
To further limit the risks of the trade, an investor could use a bull call spread. This strategy consists of buying one call option and selling another at a higher strike price to help pay for the cost of buying the first call. The spread strategy always reduces the risk of an options trade.
This strategy is designed to profit from a gain in the underlying stock’s price but the benefit of avoiding the large up-front capital outlay and downside risk of outright stock ownership. The potential risks and rewards of this strategy are summarized in the chart below.
Source: The Options Industry Council
Both the potential profit and loss for the bull call spread are limited. The maximum loss is equal to the net premium paid when the trade is opened. The maximum profit is limited to the difference between the strike prices, less the debit paid to put on the position.
This strategy could be especially appealing with high priced stocks where the share price and options premiums are often a significant commitment of capital for smaller investors.