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Options Traders See Range-Bound Yahoo

Brian Stutland | President, Stutland Equities and CNBC Contributor
Monday, 15 Oct 2012 | 4:08 PM ET

Note: This post was written by Brian Stutland, President of Stutland Equities and a contributor to CNBC's "Options Action ."

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Yahoo

The biggest trade of the day was the sale of 27, 000 Oct. 16-strike calls for $0.09, which was done when the stock was trading at 15.88. Next Monday, Yahoo will report quarterly earnings for the first time since CEO Melissa Myers took the helm. However October expiration is this Friday, so these options will expire ahead of the announcement. (Read More: Mayer Back in the Saddle to Push Yahoo's Revamp: Report .)

This trade is very likely a hedge against long stock position, in a trade known as a "covered call" or "buy-write."

This is a conservative strategy that traders use when they expect sideways-to-mildly-bullish price action. In this case, the trader is being paid $0.09 to forgo any gains on his long stock position above $16.00 per share. Since the trader collects $0.09, this trade will outperform a naked long stock position if the stock remains below 16.09 this week. If Yahoo is above 16, the trader will make the $0.09 collected from selling the call plus $0.12 from buying stock at 15.88 and selling it at 16.00, which is a 1.3 percent return in a week. If Yahoo sells off this week, the trader will keep the $0.09 collected as a cushion to downside losses in the stock.

(Read More: Yahoo Finally a Stock to Shout About: Cramer .)

So, does this strategy really make sense?

First of all, keep in mind that Yahoo's stock has had a strong run-up since Sept. 4, when it traded 14.59, and is nearing a major area of congestion and resistance in the 16 - 16.5 range.

For investors who are long the stock but want to reduce some of the stocks day to day volatility, a buy-write strategy like this makes sense. However, since the options in this trade will expire ahead of Yahoo's earnings, it will not dampen the potentially sharp swings the stock could have next week.

For investors looking for a little more protection from the earnings announcement, I'd look to sell Nov. call options. These have elevated implied volatilities due to the pending news, and will therefore offer sellers larger premiums.

Brian Stutland is the President of Stutland Equities and a contributor to CNBC's "Options Action ."

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