Opportunity in PayPal’s Slump?

Dear Reader,

While I was watching the markets and today’s trading action, when I came across this one stock in particular, what I saw piqued my interest.

The trade that came over the wire just a few hours ago was for PayPal Holdings, Inc. symbol: (PYPL).

It’s what I saw in PYPL’s stock chart that made this potential trade stand above the rest when I saw it today. Take a look below at a current snapshot of PYPL’s stock chart and I’ll break down for you what I see when I see this chart.

When looking at this stock chart for PayPal Holdings, Inc., the first thing that stands out to me is the powerful technical ‘Sell’ signal that is currently flashing!

In this daily price chart, you can see there are also two Exponential Moving Averages (EMA) overlaid. The shorter term line is the 50-Day EMA and the longer term line is the 100-Day EMA.

The chart shows that in early March, as PYPL stock’s momentum was beginning to fizzle out, the stock’s 50-Day EMA crossed below the 100-Day EMA. This created a brand new technical ‘Sell’ signal for PYPL shares.

When I come across a technical signal like this, I consider it a ‘Sell’ because the shorter term EMA is beginning to outpace the longer term EMA to the downside, which is indicative of a sustained move lower.

In order for an EMA crossover like this to occur, strong selling pressure has to be generated for a stock, driving the shares downward. An EMA trading system like the 50/100-Day EMA system, is able to identify these sustained momentum shifts when the crossover occurs offering traders an opportunity to jump in and participate in the move.

Now, even though the original crossover occurred a few months back, this does not mean it is too late to capitalize on the stock’s bearish decline. When stocks move to the downside like this, the bearish trend can sometimes last longer than one might think.

Since the 50-Day EMA is still trading below the 100-Day EMA, this means the ‘Sell’ signal is still intact and this trend is still tradable. Since this bearish trend is still in play, let’s discuss how I would look to place a bearish trade on PYPL stock.

How I Would Look to Trade It

Since PYPL’s 50-Day EMA is still trading below the 100-Day EMA signaling the ‘Sell’, this is offering an attractive trading setup. The next question is how do we actually want to gain exposure to this trade?

With a setup like this, we like to find a put option to purchase which would provide us with some leverage on our trade. By doing this, should the bearish trend continue, our trade is positioned to produce much stronger returns if compared to owning the underlying stock shares through the sell-off.

When selecting which put option to purchase, I often rely on my 1% Rule to help narrow down my choice of option strikes. The 1% Rule helps me select an in-the-money option that has a higher probability of producing a profit when compared to an at-the-money or out-of-the money option. Once I have one selected I will vet the trade using my Put Option Purchase calculator to determine the trade’s profit potential.

Below is a snapshot of my Put Option Purchase Calculator that shows the profit potential analysis for my trade. This example examines a range of PYPL shares remaining flat up to a 12.5% decrease at option expiration.

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85.8% Profit Potential for PYPL Option

The trade analysis shows that if PYPL shares were to decrease by just 1% at option expiration, this trade would make 1.1%.

Then looking at a few of the bigger potential moves, if PYPL shares sold off 5.0% at option expiration, our option would be set to profit 38.7%!

If that doesn’t sound good enough, get this, if PYPL shares were down 10.0% at option expiration, this put option would be set to produce an 85.8% profit! That means the put option would greatly outperform the stock!

By following my 1% Rule to select which put options to purchase, this has helped me in the past to juice my trade’s profit potential, just like in the example shown above. Additionally, the 1% Rule helps to increase the odds that the option will profit as the underlying stock only has to decrease by 1% for the option to begin profiting.

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