Alex Fotopoulos is the editor of My Traders Journal as well as the Chart Analysis blog which analyzes trends for stocks and ETFs.  Recently Alex and I shared lunch together and I was impressed by his take on the market and his passion for investing.  I hope you will find his opinion on CVS helpful.

In the June 15th edition of Barron’s Kopin Tan made some bullish comments about CVS Caremark Corp (CVS). One of his suggestions for suggesting CVS as a good stock pick is the historically low P/E ratio it has right now. I pulled the following chart of CVS’ historical P/E versus its current price to earnings ratio from one of the free Ford Equity Research reports offered by TD Ameritrade.

I like to use these reports and charts that show stocks’ P/E ratios in the low historical ranges. My next step is always to chart the stocks I’m considering. The chart showed potential support close by, either close to the current price from early in Monday’s trading near $29.80 or next at $29.00.

I started my trade as a naked put order with a $30 strike, but decided I should target a lower strike to give myself a better chance of the option finishing at a full profit for me. Before I placed an order for the $29 strike I double checked myself to see how I could hedge it which is something I’m trying to do more after learning my lesson too harshly last year when some of my picks went the wrong direction. I noticed the vertical put spreads at $30/$28 offered the same net premium as the naked puts at the $30 strike. I figured hedging my trade was smarter in this market than taking the full downside risk since the upside potential gain was the same. The only difference is that I took away a full dollar from the cushion I had from the options finishing out of the money. If the options I was selling were set to expire this week I wouldn’t have taken the chance with this trade, but I think that even if CVS dips, it shouldn’t be for long and I’ll ride out my position.

While CVS was trading at $29.81 my limit order hit. I sold five CVS July 30 puts (CVSSF) at $1.25 and received $611.24 including commission and bought to open 5 CVS July 28 puts (CVSSO) at $0.50 and paid $253.75 including commission as a hedge. Since I entered the order as a vertical puts spread instead of separate legs in different orders I only paid commissions on one order and then on each option contract. I put my order in for a $0.75 net credit. I came away with a total after commission net credit of $357.49.

That order went through on Monday June 15th. During my lunch on June 16th I charted CVS while it was trading at $29.92. This is a summary of the notes I took then.

The trend lines of higher lows and lower highs are on the path to converge soon – This is setting up to a symmetrical wedge. Recent lows for CVS show support just under $29.00 possibly. Although CVS broke below its 50 day moving average last week the 100 and 200 day moving averages show support not far below the current price which is in line with the previous lows I mentioned. The Williams %R 14 and 28 day indicators show no real push for direction for either side. Volume has been lighter than average recently possibly suggesting the latest dip might not have too much staying power.

I expect the wedge drawn in my chart is going to be the catalyst for a new run up for CVS soon if I’m right and if I’m off by some I think CVS will come back down to touch its earlier low close to $29.00 and then will fight back strong. The break below the 50 day simple moving averages made me feel I should hedge my position along with the 10 and 20 day averages (not shown in this chart) breaking support too. I think the 100 and 200 day moving averages will cross soon which is a bullish indicator and that will help lift CVS even more.

On Wednesday, the day after I charted this view of CVS it broke above the trend line I drew of lower highs and made it up to $31.23 before settling down some by close. I still expect CVS to have room to run and hope to keep my bull put spread in place through July options expiration.

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