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Traders bet there's money in banks

Banks are rallying as rates rise, and some traders are betting one name in particular will see big gains.

In the past two months, the KBW Bank index has soared 11 percent while the S&P 500 is down almost 1 percent. Helping to drive enthusiasm for banks has been the rebound in interest rates. The yield on the benchmark U.S. 10-year note has gone from 1.9 percent to 2.4 percent over the past 60 days. Bank profits are believed to benefit from higher interest rates.

Some traders are particularly looking at the nation's second largest commercial bank, Bank of America, to see a bullish move ahead of its expected quarterly earnings report release in July.

On Wednesday, options trades in Bank of America were 1½ times average daily volume. A lot of that volume came from bullish bets on the stock.

Customers use automated teller machines (ATM) as pedestrians pass in front of a Bank of America Corp. branch in New York.
Ron Antonelli | Bloomberg | Getty Images
Customers use automated teller machines (ATM) as pedestrians pass in front of a Bank of America Corp. branch in New York.

Specifically, one complex trade saw a trader buy 10,500 of the 17.5-strike calls expiring July 10 for 33 cents. To help pay for that trade, the trader simultaneously sold equal amounts of the 18.5-strike calls and 17-strike puts for 6 cents and 18 cents, respectively. This strategy is known as a call spread risk reversal.

A call is a bullish bet giving the purchaser the right to buy a stock at a set price within a given time frame. In selling a put, the trader expects shares to not fall below the put's strike price. Thus the trader is looking for Bank of America shares to stay between $17.06 and $18.50 over the next four weeks. Shares closed on Wednesday at $17.59.

"If the stock goes down 5 percent, [the trade] only loses $300,000," said options expert Mike Khouw. "If the stock goes up 5 percent, it makes $1 million. That's why these trades make sense."

Despite its gains over the past couple of months, Bank of America shares are down 2 percent this year. The company is expected to report earnings on July 15.

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