How To Avoid Choppiness In JP Morgan Shares During Earnings Season

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October means the start of a new earnings season on Wall Street, which typically kicks off with quarterly metrics from banks. JPMorgan Chase (NYSE: JPM ) stock is getting ready to release earnings on Oct. 13 before market open. As we write on Oct. 12, JPM is at $164.85, up more than 30% year-to-date (YTD).

JPM Weekly Chart.

The 52-week range for JPM stock has been $95.24 (Oct. 29, 2020) - $171.51 (Oct. 7, 2021), which was a record high. With a market capitalization of $496.1 billion, JP Morgan Chase is one of the largest financial institutions in the world. It holds the second spot on the Forbes Global 2000 list.

JP Morgan Chase released robust Q2 results on July 13. Revenue was $31.4 billion and EPS came in at $3.78 per share. The banking giant reports revenue in four main segments:

  • Consumer & Community Banking (CCB)
  • Corporate & Investment Bank (CIB)
  • Commercial Banking (CB)
  • Asset & Wealth Management (AWM)

The board also increased the dividend from 90 cents per share to $1.00. The current stock price supports a dividend yield of 2.43%.

On July 12, the day before the quarterly announcement, JPM stock closed at $158. Then, on July 19, it hit an intraday low of $145.71, after which a new up leg started. Since then the shares have returned more than 13%.

When JP Morgan Chase reports on Oct. 13, in addition to traditional metrics, investors will be looking at organic growth initiatives as well as management’s acquisition strategies, including in the financial technology space.

Next Move In JPM Stock?

Among 29 analysts polled via, JPM shares have an “outperform” rating, with an average 12-month price target of $167.19. Such a move would imply an increase of about 1.5% from the current level. The target range is between $73 and $200.

Consensus Estimates.

In other words, Wall Street believes most of the good news might already be priced into the share price. Therefore, investors who are nervous about increased volatility and a potential decline in JPM stock might consider a "poor person's covered call" on the stock.

So, today we introduce a diagonal debit spread on JPM using LEAPS options, where both the profit potential and risk are limited. Such a strategy could be used to replicate a covered call position at a considerably lower cost, and also help decrease the portfolio volatility.

Investors who are new to options might want to revisit our previous articles on LEAPS options first (for example, here and here) before reading further.

Diagonal Debit Spread On JPM Stock

Current Price: $164.85

A trader first buys a “longer-term” call with a lower strike price. At the same time, the trader sells a “shorter-term” call with a higher strike price, creating a long diagonal spread.

The call options for the underlying stock have different strikes and different expiration dates. The trader goes long one option and shorts the other to make a diagonal spread.

In this strategy, both the profit potential and risk are limited. The trader establishes the position for a net debit (or cost). The net debit represents the maximum loss.

Most traders entering such a strategy would be mildly bullish on the underlying security. Instead of buying 100 shares of JP Morgan Chase, the trader would buy a deep-in-the-money LEAPS call option, where that LEAPS call acts as a “surrogate” for owning the stock.

For the first leg of this strategy, the trader might buy a deep in-the-money (ITM) LEAPS call, like the JPM Jan. 19, 2024, 120-strike call option. This option is currently offered at $50.20. It would cost the trader $5,020 to own this call option that expires in about two years and three months instead of $16,485 to buy the 100 shares outright.

The delta of this option is close to 80. Delta shows the amount an options price is expected to move based on a $1 change in the underlying security.

If JPM stock goes up $1 to $165.85, the current option price of $50.20 would be expected to increase by approximately 80 cents, based on a delta of 80. However, the actual change might be slightly more or less depending on several other factors that are beyond the scope of this article.

For the second leg of this strategy, the trader sells a slightly out-of-the-money (OTM) short-term call, like the JPM Dec. 17 170-strike call option. This options current premium is $4.50. The option seller would receive $450, excluding trading commissions.

There are two expiration dates in the strategy, making it quite difficult to give an exact formula for a break-even point in this trade. Different brokers might offer “profit-and-loss calculators” for such a trade setup.

Calculating the value of the back-month option (i.e., LEAPS call) when the front-month (i.e., the shorter-dated) call option expires requires a pricing model to get a “guesstimate” for a break-even point.

Maximum Profit Potential

The maximum potential is realized if the stock price is equal to the strike price of the short call on its expiration date. So the trader wants the JPM stock price to remain as close to the strike price of the short option (i.e., $170 here) as possible at expiration (on Dec. 17, 2021), without going above it.

Here, the maximum return, in theory, would be about $835 at a price of $170 at expiry, excluding trading commissions and costs. (We arrived at this value using an options profit-and-loss calculator). Without the use of such a calculator, we could also arrive at an approximate dollar value. Lets take a look:

The option seller (i.e., the trader) received $450 for the sold option. Meanwhile, the underlying JPM stock increased from $164.85 to $170, a difference of $5.15 per share, or $515 for 100 shares.

Because the delta of the long LEAPS option is taken as 80, the value of the long option will, in theory, increase by $515 X 0.8 = $412.

However, in practice, it might be more or less than this value. There is, for example, the element of time decay that would decrease the price of the option. Meanwhile, changes in volatility could increase or decrease the option price as well.

The total of $450 and $412 comes to $862. Although it is not the same as $835, we can regard it as an acceptable approximate value.

Understandably, if the strike price of our long option had been different (i.e., not $120.00), its delta would have been different, too. Then, we'd need to use that delta value to arrive at the approximate final profit or loss value.

Here, by not investing $16,485 initially in 100 shares of JPM, the traders potential return is leveraged.

Ideally, the trader hopes the short call will expire out-of-the money (worthless). Then, the trader can sell one call after the other, until the long LEAPS call expires in over two years.

Bottom Line On JPM Stock

Blue-chip banking behemoth JP Morgan Chase will give us the first glimpse of third-quarter earnings on Wall Street. Financial names typically do well when interest rates rise, a move that the Fed might soon make. Yet, given how far the shares have gone up in recent weeks, there could be short-term profit-taking in the JPM stock.

Such a decline would offer buy-and-hold investors a good opportunity to invest in JPM stock for the long run. Others who are experienced with options might also hold the stock as part of a trading strategy explained above.

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