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Risk Is $165 For This Potential Triple Digit Payday

Risk Is $165 For This Potential Triple Digit Payday

Trade summary: A bull call spread in Cerence Inc. (Nasdaq: CRNC) using the November $60 call option which can be bought for about $3.35 and the November $65 call could be sold for about $1.70. This trade would cost $1.65 to open, or $165 since each contract covers 100 shares of stock.

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  • In this trade, the maximum loss would be equal to the amount spent to open the trade, or $165. The maximum gain is $335 per contract. That is a potential gain of about 103% based on the amount risked in the trade.

    Now, let’s look at the details.

    GlobeNewswire reported that CRNC announced that Dongfeng Motor, one of the largest automakers in China, has selected connected car and automotive assistant products from Cerence and PATEO CONNECT+, a leading connected car company in Asia, for its next-generation Aeolus AX7.

    To build an intuitive, conversational assistant experience, Dongfeng has chosen Cerence ARK (AI Reference Kit), a turnkey automotive assistant, to quickly develop, deploy and manage a fully localized automotive voice assistant that will be integrated into a head unit designed and built by PATEO.

    With ARK, Cerence combined its state-of-the-art, AI-powered voice assistant features, including wake-up word, speech recognition, speech signal enhancement, natural language understanding, and text to speech, to deliver a responsive, fast and highly intelligent assistant that serves as the digital centerpiece of the Aeolus AX7.

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  • Dongfeng Automotive expressed their views on communication AI: “As we built the Aeolus AX7, the in-car experience and voice-powered control for key functions was a top priority. The powerful combination of Cerence ARK and PATEO’s head unit has accelerated our speed to market and reduced costs while still delivering a smart, natural experience for our Aeolus AX7 drivers.”

    “Chinese drivers have made it clear that sophisticated, intuitive technologies are a key piece of their satisfaction with their cars, and automakers are taking notice,” said Charles Kuai, SVP & GM, Mobility and IoT, Cerence.

    “We are proud to work with Dongfeng, one of the leading Chinese automakers, and PATEO to create this next-generation automotive assistant experience that will impress and delight drivers and spark continued innovation in the market.”

    “We need to move quickly to develop and deploy high quality automotive assistant experiences that make the most of the increasing level of connectivity in today’s cars,” said Yilun Ying, PATEO CEO.

    “By leveraging Cerence ARK alongside our thoughtfully designed head unit, we together provide an innovative and fully localized voice assistant for Dongfeng that has all the features and functionality drivers are looking for, built quickly and efficiently.”

    The stock has been basing, a pattern that often precedes breakouts.

    CRNC daily chart

    The weekly chart shows the full trading history and confirms there is significant potential upside and significant risk in this trade.

    CRNC weekly chart

    A Specific Trade for CRNC

     For CRNC, the November 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 November $60 call option can be bought for about $3.35 and the November $65 call could be sold for about $1.70. This trade would cost $1.65 to open, or $165 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 $165.

    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 CRNC, the maximum gain is $335 ($65- $60= $5; 5- $1.65 = $3.35). This represents $335 per contract since each contract covers 100 shares.

    Most brokers will require minimum trading capital equal to the risk on the trade, or $165 to open this trade.

    That is a potential gain of about 103% 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 CRNC 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.

    bull call spread

    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.

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