Palantir (PLTR) consolidation offers an attractive long strangle trade

Big data analytics specialist Palantir Technologies (PLTR) is easily one of the top performers this year, adding almost 400% of its market value since the start of January. However, it can also be argued that PLTR stock has entered a sideways consolidation pattern since early December. As the possibility of a breakout or breakdown looms, investors may want to consider a direction-neutral options trade known as a long strangle.

Given the stratospheric performance and supportive fundamental catalysts, I am currently bullish on PLTR stock overall. Previously, I had concerns about the underlying company. Still, the bond cannot be denied. Thanks to the rapid spread of artificial intelligence, more and more companies and institutions have signed contracts with Palantir. And that’s one of the reasons top analysts are pushing for PLTR.

At the same time, it’s possible to have too much of a good thing too quickly, which can ultimately lead to a correction. As an example, look at Nvidia (NVDA). Since the beginning of 2024, NVDA has gained almost 200%, which is incredibly good. However, over the last six months, performance has increased more like 14%. If a correction impacts PLTR stock, you should hedge against that possibility.

The straightforward nature of the Long Strangle

One of the simplest multi-leg options strategies, the Long Strangle is both simple and effective. The concept involves purchasing a call option for a specific option chain (e.g. expiration date) and simultaneously purchasing a put option at a lower strike price. With this structure, the trader is able to attack two outcomes: either a large move higher or a large move lower. The long chokehold is powerful when you can rely on the amount of movement rather than the direction.

First, let’s get the bad news out of the way. Long strangles are expensive primarily because you pay a premium for both the call and put sides. Typically, the breakeven point for a purchased option is the strike price plus the premium. However, since you’re paying for two premiums, the breakeven point for both outcomes extends significantly. Second, the target security must move appropriately, otherwise both options expire worthless.

However, what makes the long strangle attractive is the fact that it is a limited risk, unlimited reward opportunity. The amount of money at risk is limited to the total amount of the charge paid for both the call and the put. However, there is no upper limit to how high a stock can rise. On the put side, the stock could fall to zero. So while at least one option will definitely expire worthless, you can use the profitable option until expiration (if you dare).

Get the lay of the land for PLTR stock

On the surface, the underlying volatility is what makes PLTR stock attractive as a long strangle options play. Currently, PLTR has a 60-month beta of 2.7, meaning it is significantly wilder than the benchmark stock index. So the chances are good that the security will move strongly regardless of the direction. However, you also need to be aware that the options market often prices in this volatility with higher premiums.

Still, the main reason why PLTR stock is so attractive as a long strangle is the current consolidation pattern it is in. After hitting new plateaus on what seemed like a daily basis, the security encountered relative upward resistance this month. Nevertheless, recent price movements suggest that PLTR has regained its bullish momentum. It is therefore realistic to assume that equity will continue to increase.

However, the opinion of experts is very divided. Late last month, Jefferies sounded the alarm, declaring the possibility that PLTR stock could fall to $28 per share. Analysts at the research firm noted in part that large-scale multiple expansion recently occurred during the COVID-19 bubble. Therefore, it may make sense to at least cover the possibility of a significant decline. A well-placed long chokehold would do just that.

A trade to keep an eye on

Whenever you delve into options strategies, you must consider the multivariate nature of risk. In particular, you need to consider not only the amount of money at risk (the total amount paid to complete the trade), but also the probability of success. In general, trades with higher win probabilities carry higher position risk (i.e. higher load requirement).

Given this point and the current market structure, investors may want to consider the 90C/80P long strangle for the options chain expiring on January 24, 2025. Buying the $90 call represents a very bullish bet that PLTR stock will rise significantly from its current consolidation pattern. Still, buying the $80 put could be profitable if the bears decide to spoil the party (which could easily happen).

Of course, one of the risks is that PLTR stock will rise and then fall, resulting in a small net move until expiration. This is where the Long Strangle – and its close relative, the Long Straddle – can be tricky. If you have already made a sufficient profit, you should consider exiting the position early to lock in your profits.

Wall Street’s take on Palantir Technologies

As for Wall Street, PLTR stock has a consensus rating of “Hold,” based on two “Buys,” seven “Hold,” and four “Sell” ratings. The average PLTR price target is $42.20, implying a 47.70% downside risk.

See more PLTR analyst ratings

The bottom line: Bet on the volatility of PLTR stock, not its direction

While no one will deny that Palantir Technologies is one of the best-performing companies this year due to the rise of AI, one can also point out that PLTR stock may be in for a correction. Other tech giants enjoyed a strong first half of 2024, only to weaken significantly in the second half. Smart investors can prepare for this possibility with a long strangle options strategy.

With a long strangle, traders don’t bet on a direction, but on the extent of the movement. As long as the target security fluctuates (or collapses) enough, the trader can make profits from the one profitable option, regardless of what that option is. However, standing still is the enemy of long choking. So if profits are made, it may make sense to think about exiting the position early.

Disclosure.