NVDA gapped down today on increasing volume, after past 3 days formed a lower high, an Evening Star candle pattern, and closed yesterday below the 8ema. Also the ADX crossed decidedly bearish, which adds a little confidence. Stochastics still have room to go before getting oversold below 20%.
I got Jun 21st 170 Puts for $6.92 at 9:32am EDT.
A 50% Fibonacci retracement (yellow on the chart) just under the 50 SMA is a reasonable target. Expect we may get some support from the 50 SMA, today is Friday in a news headline risk environment, and the options are costly, so I'm concerned about the 50 SMA being the bottom of this pull back. I want a hedge against a gap fill on Monday.
So here's what I came up with for a hedge. At 1:37pm I sold an option Risk Reversal as follows:
I shorted a May 3rd 160 Put for $.39. It has a Delta of 6.5%. The Jun 170 Put has a Delta of 37%. So the May 3rd 160 Put won't hurt my profitability much if NVDA gaps down to my target.
I used the $.39 to finance the purchase of a May 3rd 190 Call which costs $.53. It has a 10% Delta and a 1.8 Gamma. The short term expiration gives a high Gamma, so if NVDA goes against me the Delta will increase quickly. It won't protect 100% of the losses from the Jun Put with a 37% Delta, but it will provide some protection. And it only costs .53 - .39 = $14 per Risk Reversal. My total risk on the Risk Reversal is the $14 cost. I don't have to worry about assignment of the short 160 Puts because I can exercise the long 170 June Puts.
If NVDA goes higher than today's high, then I'll exit everything.
If it hits the target, then I'll exit everything.
If it goes sideways then I'll hold the hedge and figure out what to do next Friday when the hedge expires.
I haven't taken a hedge like this before, so if I missed some aspect please leave a comment.
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