This Large Cap Drug Stock Offers Traders a 122% Gain
Trade summary: A bull call spread in Abbott Laboratories (NYSE: ABT) using the December $110 call option which can be bought for about $3.75 and the December $115 call could be sold for about $1.50. This trade would cost $2.25 to open, or $225 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 $225. The maximum gain is $275 per contract. That is a potential gain of about 122% based on the amount risked in the trade.
Now let’s look at the details of the trade.
ABT issued a press release on CNW Group noting that the company “launched its most innovative infant formula yet, Similac Pro-Advance® with 2′-Fucosyllactose Oligosaccharide† (2′-FL†), which is the first product in Canada with this breakthrough ingredient in infant formula.
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Breast milk is considered the gold standard to feed an infant, and breastfed babies tend to have stronger immune systems compared to those who are fed formula.
This is due in part to the many immune components found in breastmilk, including the protective qualities of human milk oligosaccharides (HMOs). HMOs are the third most abundant solid component of breast milk after fat and carbohydrates (lactose), and research has shown they play a fundamental role in a baby’s digestive health and immunity.
One of the best-known functions of HMOs is that they act as prebiotics, nourishing the good bacteria in the baby’s gut. 2′-fucosyllactose (2′-FL) (pronounced 2 fyou-ko-sil-lac-tose) is the most abundant HMO found in the breast milk of most mothers.
For some parents, breast milk is not always available or chosen. And, for babies who are not exclusively breastfed, infant formula is the only suitable and safe alternative. That’s why Abbott developed a new Similac formula with 2′-FL†, which is an ingredient identical in structure to 2′-FL HMO, an immune component found in breast milk.
Abbott is a leader in HMO and 2′-FL† research, and has sponsored at least 20 clinical and pre-clinical studies on the topic, leading the company to develop Similac Pro-Advance® with 2′-FL†.
New understanding and scientific developments have allowed Abbott’s scientists to harness the power of 2′-FL† in infant formula, an innovation designed to help support a baby’s developing immune system. New data continues to deepen the evidence for the beneficial impact of 2′-FL on infant gut and immune development.
“Parents want to know that their child is getting the nutrition they need, and breastfeeding is known to have many health benefits,” says Nishta Saxena, a Registered Dietician and Nutritionist of her own practice, Vibrant Nutrition.
“Parents who use formula can feel more confident, knowing that the inclusion of 2′-FL† in infant formula was inspired by an immune component found in human milk.”
The news comes as ABT has been basing.
The longer-term chart shows that momentum is bullish.
Momentum is shown with the stochastics indicator at the bottom of the chart. This indicator is generally useful on a weekly chart and the recent bullish signal could indicate ABT is likely to continue moving higher.
A Specific Trade for ABT
For ABT, the December options allow a trader to gain exposure to the stock. This trade will be open for about three weeks and allows for traders to turn over capital quickly, potentially compounding gains several times a year.
A December $110 call option can be bought for about $3.75 and the December $115 call could be sold for about $1.50. This trade would cost $2.25 to open, or $225 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 $225.
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 ABT, the maximum gain is $275 ($115- $110= $5; 5- $2.25 = $2.75). This represents $275 per contract since each contract covers 100 shares.
Most brokers will require minimum trading capital equal to the risk on the trade, or $225 to open this trade.
That is a potential gain of about 122% 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 ABT 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.