High Income Opportunity in a Tech Stock
Trade summary: A bear call spread in Citrix Systems, Inc. (Nasdaq: CTXS) using November $110 call options for about $6.10 and buy a November $115 call for about $3.30. This trade generates a credit of $2.80, which is the difference in the amount of premium for the call that is sold and the call.
In this trade, the maximum risk is about $220. The risk can be found by subtracting the difference in the strike prices ($500 or $5.00 times 100 since each contract covers 100 shares) and then subtracting the premium received ($280). This trade offers a potential return of about 27% of the amount risked.
Now, let’s look at the details.
A lower outlook for the current quarter weighed on shares of CTXS according to Barron’s.
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“For the quarter, the provider of remote access software posted revenue of $767 million, up 5% from a year ago and ahead of the company’s guidance range of $750 million to $760 million. Profits were 78 cents a share on a GAAP basis and $1.38 on a non-GAAP diluted basis, surpassing the company’s projected ranges of 59 to 65 cents GAAP and $1.20 to $1.25 a share non-GAAP.
CTXS increased its full-year profit guidance while narrowing the range on revenue. The company now sees revenue for the year of $3.2 billion to $3.21 billion, with profits of $3.81 to $3.92 a share on a GAAP basis or $5.89 to $5.99 a share non-GAAP; previous guidance called for $3.18 billion to $3.21 billion and profits of $3.48 to $3.69 GAAP and $5.65 to $5.85 non-GAAP.
The outlook for the fourth quarter was mixed relative to Wall Street estimates. The company sees fourth-quarter revenue of $775 million to $785 million, with profits of 70 to 82 cents GAAP, and $1.25 to $1.35 a share non-GAAP; previous consensus was $786.5 million in revenue and non-GAAP profits of $1.31 a share.
For 2021, Citrix is projecting revenue growth of 4%, with profits of $3.73 to $3.93 a share on a GAAP basis and $6.20 to $6.40 a share non-GAAP. Street consensus for non-GAAP earnings has been $6.19 a share.
Citrix said that annualized recurring revenue, or ARR, was $1.03 billion, up 53% year over year, with software-as-a-service ARR of $630 million, up 36%. Subscription bookings were 77% of total bookings, up from 59% a year ago. Paid subscribers increased to 8.3 million from 7.5 million in the second quarter.
Citrix has been going through a revenue model transition, pushing customers toward a subscription-based cloud model and away from perpetual licenses. But the company says the process has been slowed by the pandemic.
“Through the first three quarters of the year, many customers focused on near-term business critical needs as their workforces adapted to remote work,” the company said in its quarterly letter to shareholders.
“As such, these customers have often chosen on-premise subscriptions rather than immediately migrating their Citrix Workspace deployments directly to the cloud. As a result, the transition and trade-up of customers to our cloud offering has not progressed at the rate we had anticipated coming into the year.” The company said that has affected the growth of reported software-as-a-service revenue.”
The chart pattern using weekly data appears to be bearish with a spike top and a recent break of support.
A Specific Trade for CTXS
For CTXS, we could sell a November $110 call for about $6.10 and buy a November $115 call for about $3.30. This trade generates a credit of $2.80, which is the difference in the amount of premium for the call that is sold and the call.
Remember that each contract covers 100 shares, opening this position results in immediate income of $280. The credit received when the trade is opened, $280 in this case, is also the maximum potential profit on the trade.
The maximum risk on the trade is about $220. The risk can be found by subtracting the difference in the strike prices ($500 or $5.00 times 100 since each contract covers 100 shares) and then subtracting the premium received ($280).
This trade offers a potential return of about 27% of the amount risked for a holding period that is relatively brief. This is a significant return on the amount of money at risk. This trade delivers the maximum gain if CTXS is below $120 when the options expire, a likely event given the stock’s trend.
Call spreads can be used to generate high returns on small amounts of capital several times a year, offering larger percentage gains for small investors willing to accept the risks of this strategy. Those risks, in dollar terms, are relatively small, about $220 for this trade in CTXS.
A Trading Strategy To Benefit From Weakness
A price decline often results in higher than average options premiums. That means option buyers will be forced to pay higher than average prices for trades, But, sellers could benefit from the higher premiums.
In this case, with a bearish outlook for the short term, a call option should be sold. The call should decline in value if the stock declines and sellers of calls benefit from this decline.
Selling options can involve a great deal of risk. A spread options strategy can be used to limit the potential risk of the trade.
One strategy that traders can consider is the bear call spread. This is a trade that uses two calls with the same expiration date but different exercise prices.
Traders buy one call and sell another call. The exercise price of the call you sell will be below the exercise price of the long call. The call is sold to limit the risk of the trade. So, this strategy will always generate a credit when it is opened and will always have limited risk.
The risk profile of this trading strategy is summarized in the diagram below which shows the limited risk and reward.
Source: The Options Industry Council
While risks and rewards are limited, this strategy will allow traders to generate potential gains in a stock they might otherwise find too risky to trade. Many individuals ignore bearish strategies because of the risks.
You’ll know the maximum potential gain with this strategy as soon as it’s opened. It is equal to the amount of premium received when the trade is opened. The maximum loss is equal to the difference between the exercise price of the options contracts less the premium received and is also known.