Since the Greek crisis has been averted (Ha!), we can now get back to business. China has its own set of issues that eclipses the Greek problems by orders of magnitude. China’s potential pitfalls include: a massive housing bubble, commodity prices cratering, and a very tenuous stock market whose growth has been driven by under-capitalized, over-leveraged, retail traders, many of whom have very little exposure to trading.
Let’s find a Chinese company who is reporting earnings that has some room to go on the downside. BIDU. Baidu, Inc. is a Chinese-language Internet search provider and is based in Beijing. Let’s take a look at the chart:
We see that BIDU went down precipitously with the rest of the Chinese market from late June through early July putting in its bottom on 7/8. It has since rallied hard but will be running into significant resistance at the top of the Donchian channel which is coincident with the 200-day moving average. Over the past year, BIDU has had positive results on earnings twice and disappointed twice. So, we can argue that we have a “coin flip” set up on performance, with a bearish bias due to the chart. If I can be paid odds to take one side of the coin or the other, I will do that.
The implied volatility is pricing a move of about 9% through next Friday which targets the $190 strike. If I purchase the 7/31 (weekly) 190/195 put spread for $1.00. I will have afforded myself 4:1 odds! My max loss is whatever I pay ($1). My max gain is the distance between the strikes less what I paid in premium ($5-$1 = $4). $4/$1 = 4:1! I don’t know if BIDU is going to go up or down. I have made a case where we can at least have a bearish bias and have presented a spread where we get 4:1 odds if we are right! If we are able to consistently find set ups like this, that is a recipe for long term profitability.
