Local News Points to a Possible 120% Gain
The headline focused on the local aspect of the news, “Lockheed Martin Corp. won a $58 million contract modification which will bring more missile work to Brevard County.” Orlando Business Journal reported that, “The defense contractor Lockheed Martin Corporation (NYSE: LMT) was awarded the U.S. Navy contract to produce Trident II missiles.
About 40% of the work for the order will take place between Cape Canaveral, Titusville and Merritt Island, finishing up by Sept. 30, 2024. The contract is an add-on to a $141 million contract awarded on Aug. 30.”
Lockheed Martin Corporation is a security and aerospace company. The company operates through four segments. Aeronautics segment is engaged in the research, design, development, manufacture, integration, sustainment, support and upgrade of military aircraft, including combat and air mobility aircraft, unmanned air vehicles and related technologies.
Missiles and Fire Control segment provides air and missile defense systems; fire control systems; manned and unmanned ground vehicles, and energy management solutions.
Rotary and Mission Systems segment provides design, manufacture, service and support for a range of military and civil helicopters; mission systems and sensors for rotary and fixed-wing aircraft; simulation and training services, and unmanned systems and technologies, among others.
The Journal continued, “Space Systems segment is engaged in the research and development, design, engineering and production of satellites, strategic and defensive missile systems and space transportation systems.
Lockheed Martin also won a $9.5 million contract modification to produce sensors for the U.S. Army. Work for that contract will happen in Orlando, with an expected completion date of Sept. 30, 2021.
Lockheed Martin is the region’s eighth-largest employer, with more than 8,000 Central Florida workers. The company in early December announced plans to grow that workforce to 9,000 by 2023. Lockheed Martin is hiring for more than 700 jobs in the area, including engineer and technician positions.”
The news comes as LMT appears to breaking out of a base. The base can be seen in the daily chart below and appears to be extensive, which means it could be significant if prices break above resistance.
The weekly chart shows the base formed after a large advance and the base could be the midpoint of a multi-month move in the stock under one interpretation of the potential pattern.
A Trade for Short Term Bulls
As with the ownership of any stock, buying LMT 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 has 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.
A Specific Trade for LMT
Every day, we scan the markets looking for trades with low risk and high potential rewards. These trades are available almost every day and we share them with you as we find them. Now, it’s important to remember these are trading opportunities in volatile stocks.
When we find a potential opportunity, we evaluate it with real market data. But because the trades are volatile, the opportunities may differ by the time you read this. To help you evaluate the current opportunity, we show our math and explain the strategy.
For LMT, the January 17 options allow a trader to gain exposure to the stock.
A January 17 $395 call option can be bought for about $4.72 and the January 17 $400 call could be sold for about $2.45. This trade would cost $2.27 to open, or $227 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 $227.
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 LMT the maximum gain is $2.73 ($400 – $395= $5; $5-$2.27 = $2.73). This represents $273 per contract since each contract covers 100 shares.
Most brokers will require minimum trading capital equal to the risk on the trade, or $227 to open this trade.
That is a potential gain of about 120% based on the amount risked in the trade. The trade could be closed early if the maximum gain is realized before the options expire.