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This past week has been a good one for our mock trade on Cigna (CI). Last Thursday, the stock started declining, moving below its 200-day moving average on Friday. After the close, the company warned that earnings would fall well short of estimates. The decline continued on Monday with several analysts cutting their ratings and price targets on the stock. This meant a sharp decline for the stock, leaving our mock trade in positive territory. In fact, we now have a double in this trade. Below is the week-to-week data for this bear put spread:

Bear Put Spread
6/3/2003
Cigna (CI) @ 51.36
Buy 1 Oct 50 Put @ 4.40  IV = 39
Sell 1 Oct 40 Put @ 1.20  IV = 46
Initial Debit = 3.20 or $320
Max Risk = $320
Max Reward = $680
Breakeven = 46.80

6/10/2003
Cigna (CI) @ 49.66
1 Oct 50 Put @ 4.60 (bid) IV = 41
1 Oct 40 Put @ 1.20 (ask) IV = 44
Initial Debit = 3.20 or $320
Current Credit to close = 3.40
Profit = $0.20

6/17/2003
Cigna (CI) @ 48.64
1 Oct 50 Put @ 5.10 (bid) IV = 42
1 Oct 40 Put @ 1.60 (ask) IV = 47
Initial Debit = 3.20 or $320
Current Credit to close = 3.50
Profit = $0.30 or $30 per spread

6/24/2003
Cigna (CI) @ 47.75
1 Oct 50 Put @ 5.20 (bid) IV = 39
1 Oct 40 Put @ 1.50 (ask) IV = 45
Initial Debit = 3.20 or $320
Current Credit to close = 3.70
Profit = $0.50 or $50 per spread

7/01/2003
Cigna (CI) @ 46.89
1 Oct 50 Put @ 5.40 (bid) IV = 37.7
1 Oct 40 Put @ 1.40 (ask) IV = 42.0
Initial Debit = 3.20 or $320
Current Credit to close = 4.00
Profit = $0.80 or $80 per spread

7/08/2003
Cigna (CI) @ 48.66
1 Oct 50 Put @ 4.20 (bid) IV = 36.9
1 Oct 40 Put @ 0.95 (ask) IV = 41.9
Initial Debit = 3.20 or $320
Current Credit to close = 3.25
Profit = $0.05 or $5 per spread
Delta = -34.7
Gamma = 2.0349
Vega = $4.21
Theta = $-0.59

7/15/2003
Cigna (CI) @ 41.28
1 Oct 50 Put @ 9.10 (bid) IV = 37.7
1 Oct 40 Put @ 2.60 (ask) IV = 39.4
Initial Debit = 3.20 or $320
Current Credit to close = 6.50
Profit = $3.30 or $330 per spread (A gain of slightly more than 100 percent)
Delta = -42.0
Gamma = -1.1435
Vega = $-2.24
Theta = $0.58

Each trader has their own exit strategies, but one that Optionetics teaches is to sell half your contracts when you have made 100 percent in a vertical spread. What this does is guarantee that we won’t take a loss in the trade. We can then hold on to the other half of the contracts for further profits. However, we suggest selling once the profit for the remaining contract(s) reaches 80 percent of its maximum price. This is because the last 20 percent will require that you wait until expiration and it normally is worth closing and using the capital for a more profitable trade. Below is the risk graph for this trade, which shows this in graphical form.

Figure 1: Risk Graph of CI Trade

Notice how the last bit of profit doesn’t occur until the stock falls to about $30 or close to expiration.

Another thing that is very interesting with the trade is the flip in the “greeks.” Gamma, Vega and theta have all reversed from the prior week, due to the large drop in stock price. The gamma is now negative, meaning that for each point move in the underlying, the delta will see a move of -1.124. This is because the purchased option is not affected by delta as much because it is so far in the money. The same holds true for Vega, since a move higher in implied volatility will actually benefit the OTM option more than the ITM option. However, theta decay is positive because if the stock were to stay at the same price, the sold option is going to lose more value over time than the ITM option.

Cigna is set to announce earnings on August 1, yet traders might want to lock in at least some profits right now. Though several analysts have lowered their price target for the stock, it could consolidate in a range the next few weeks until its earnings announcement. However, for those that are not risk averse, larger profits might be made by holding on. Even so, it is always important to follow proper money management and this means getting out at the profit or price you initially set. You can’t lose taking a profit, but make sure closing the trade fits into your trading plan.

Next week we will start a new series of articles, since this trade has gotten to a point where many traders would have exited. There also isn’t much left to say about this bear put spread, though any questions on the trade or strategy can be asked on my forum.

To search for previous articles in this series, please click here.


Jody Osborne
Senior Writer & Options Strategist
Optionetics.com ~ Your Options Education Site
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