Last week, Money Morning Quantitative Strategist Chris Johnson nailed the breakout in Installed Building Products (NYSE: IBP).
And there's still time to cash in on the stock's breakout. Today, we're breaking down the stock chart to show you exactly where it's heading next, including how you can maximize profits on it.
The technical indicators are lined up for the move higher, and he forecasts that the stock will reach $50 per share in short order. That's about 6.7% from Monday's closing price, which is not a bad payday.
The question is how we can take this projected 6.7% gain and turn it into something really meaningful. The answer is leverage, and the way we do it is with options.
But first, let's take a look at the chart to see just what made Johnson so bullish on IBP...
How to Read a Stock Chart to Find Profits
When Chris first put out his prediction, IBP stock was trading in between its two major moving averages. Traders use the 50-day and the 200-day averages as guides to tell them the direction of short- and intermediate-term trends. While it's become rather cliché, it really is true that the "trend is your friend."
That's why it is so important to trade with the trend and not against it.
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Moving averages look at the past string of closing prices, add them up, and divide by the number of days. If the average is moving higher, then the trend in that time frame is rising.
Nothing mysterious there.
Traders also anticipate that these averages will act as speed bumps for the stock's movements, and that's what happened here. The 50-day average was rising, but the stock stalled when it reached the 200-day average.
In other words, the two averages were converging on the stock price, creating a scenario where the stock would break out higher or lower.
Johnson correctly identified the momentum was showing a breakout higher, and that's exactly what happened. Take a look...
Chris was able to spot this breakout by looking at other trends on the chart, and the most important was falling, or bearish trend from January 2018.
Remember, that's when the entire market initially peaked.
This is where it gets fun. Chris noticed the trend line guiding the stock lower last year met the 200-day average, just as the 2019 rising trend stalled. But just a few days earlier, the stock began to outperform the S&P 500 for the first time since it peaked in early 2018.
And he used the same analysis to find the stock's next price target: $50 a share.
Again, the chart shows us the price level that acted as a decision point in the past. While simply looking at the past action does not give us real information, understanding what was going on at that price does.
In this case, the $50 level acts as a magnet, regardless of which way the trend was pointing. The market remembers these magnet prices, called support and resistance, and traders tend to take action when they arrive.
That means we can expect supply to increase at that price as traders wait for maximum profit before closing out their winning trades.
Now, you can profit by simply buying shares of IBP and book a tidy 8% profit as the stock's momentum propels it higher.
But you can supercharge your profit potential with options...
Turning a Nice Gain into a Monster Gain
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Now that we know the trend, see that price action has moved above important moving averages, and have a target price, we can construct a winning trade using options.
The simplest strategy is to buy a call option that will gain in price as the stock moves higher. Call options give the holder the right, but not the obligation, to buy 100 shares of a stock at a fixed price by a fixed date.
The best part is that options cost many times less than just buying the underlying stock outright. That's how you get the potential for triple-digit gains.
Of course, there is no free lunch, and you can lose your entire options investment if the stock does not move sufficiently higher. But your risk is limited to the price of the options, making them attractive ways to score big profits over time.
There are many options from which to choose, but it makes sense to stick with options contracts that are "near the money." That means their strike prices are close to the current price of the stock.
For example, the April 18 call option with a strike price of $45 would be a good choice. The stock closed at $46.84 Monday, which is slightly above the strike price.
The option closed at $3.20 Monday, or $320 per contract. If the stock closed at $50, per Johnson's prediction, on April 18, it would be worth $500 per contract. That's the $50 stock price minus the $45 strike price multiplied by 100, which is the number of shares each option controls.
That would be a 56.25% gain! Now we're talking!
The caveat here is that the options on Installed Building Products are not that active. It could be difficult to get out of the trade early if it starts to sour. But if the stock follows Johnson's call, then you shouldn't have to worry about that.
Fortunately, there are much better opportunities for profiting from options trading...
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