Earnings and a New Deal Could Result in a 94% Gain on This Trade
Trade summary: A bull call spread in Novavax, Inc. (Nasdaq: NVAX) using the June $45 call option which can be bought for about $7.25 and the June $50 call could be sold for about $5.55. This trade would cost $1.70 to open, or $170 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 $1.70. The maximum gain is $330 per contract. That is a potential gain of about 94% based on the amount risked in the trade.
Now, let’s look at the details.
NVAX could be among the leaders in the race for a cure for COVID-19. Benzinga recently reported that analysts are increasingly bullish on the company with three analysts expressing recent comments.
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“H.C. Wainwright analyst Vernon Bernardino reiterated a Buy rating on Novavax shares and increased the price target from $33 to $50.
B Riley FBR analyst Mayank Mamtani maintained a Buy rating and hiked the price target from $29 to $43.
Oppenheimer analyst Kevin DeGeeter maintained an Outperform rating and lifted the price target from $19 to $38.50. “
A cluster of analyst recommendations is often more meaningful than a single report from an analyst.
The stock was up on the news.
H.C. Wainwright provided additional insights, noting NVAX “is focused on positive top-line results for Novavax’s pivotal Phase 3 clinical trial for NanoFlu, its Matrix-M adjuvanted recombinant quadrivalent seasonal influenza vaccine candidate for adults 65 and older.”
This analyst believes that NanoFlu has a clear path to licensure, adding that a biologics license application with the FDA “could occur later this year, opening up the possibility of potential commercialization in time for the start of the 2020-2021 flu season.”
This is an indication the drug could be close to marketing.
Recent funding from a large investor seeking vaccines adds to the enthusiasm, “We believe CEPI’s intended investment, the largest the coalition has made so far, speaks volumes as it shows CEPI has a significant level of confidence in Novavax’ prior experience in creating and advancing clinical-stage vaccines for pandemic flu, Ebola, MERS-CoV, and SARS-CoV (the first CoV), which we believe is underappreciated,” according to H.C. Wainwright.
The stock is now near 52-week highs and poised for a potential breakout. The weekly chart shows a broad basing patter. An initial potential price target for the stock is about $70, a large potential gain for investors in the stock.
Risks are high, however, after the recent gap up and a reversal could lead to a loss of more than $20 a share. Risk management could be considered a priority for traders looking at NVAX.
A Specific Trade for NVAX
For NVAX, the June 19 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.
A June 19 $45 call option can be bought for about $7.25 and the June 19 $50 call could be sold for about $5.55. This trade would cost $1.70 to open, or $170 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 $170.
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 NVAX, the maximum gain is $3.30 ($50- $45= $5; 5- $1.70 = $3.30). This represents $330 per contract since each contract covers 100 shares.
Most brokers will require minimum trading capital equal to the risk on the trade, or $170 to open this trade.
That is a potential gain of about 94% 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 NVAX 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 usually 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.