United Airlines parent UAL Corp. (UAUA) was singled out for a directionally neutral spread strategy on Wednesday, with one options trader betting on near-term volatility for the airline issue. Shortly after the opening bell, a block of 325 contracts changed hands on UAUA's June 24 call for the ask price of $1.32, indicating they were purchased. Simultaneously, a matching block of 325 June 16 puts traded at the ask price of $0.50, revealing these contracts were also bought.
In other words, this appears to have been the initiation of a long strangle spread. By purchasing an equal number of out-of-the-money calls and puts, this trader is anticipating that the stock will make a major move higher or lower during the next couple of months. The direction of the move is less relevant than its magnitude, as this strategy requires a pretty significant price swing in order to return a profit.
Since this spread was initiated for a net debit of $1.82 per pair of contracts, the trader needs UAUA to breach one of two breakeven points prior to June expiration. The shares must either rally above $25.82 (the call strike + net debit), or plunge below $14.18 (the put strike - net debit).
If the stock finishes anywhere between these two breakeven levels upon June expiration, the trader's maximum loss is limited to the initial net debit. The profit potential is theoretically unlimited on an upside move, while the largest possible gain on a downside move -- attained only if UAUA falls to zero -- is equal to $14.18 (the put strike - net debit).
Based on UAUA's closing price of $22.36 on Wednesday, the strangle speculator is expecting UAUA to either (a) rally at least 15.5% during the next two months; or (b) plunge at least 36.5% during this same time frame. So, while the strangle is still technically a directionally neutral play, this particular spread has a modest bias toward the bullish end of the spectrum.
Options strategies intended to capitalize on volatile price changes -- such as the strangle and its close cousin, the straddle -- are typically implemented ahead of major events, including earnings reports or product launches. In the case of UAUA, the trader could be anticipating some near-term developments regarding the airline's rumored merger with sector peer US Airways Group (LCC).
Elizabeth Harrow is a senior equities analyst and financial writer in the research department at Schaeffer's Investment Research. She is featured in the video series Schaeffer's Daily Q&A on SchaeffersResearch.com.