Tesla stock (NASDAQ:TSLA) experienced a notable decline of more than 11% during early trading on July 24, falling to $260.52 from its peak of $293.34 on July 18. However, this downturn may offer favorable prospects for traders who engage in selling short out-of-the-money (OTM) puts to generate income and benefit from lower entry points.
The recent earnings report released on July 19 revealed Tesla’s impressive performance, with revenue nearly reaching $25 billion in a single quarter. Despite offering discounts on certain popular models, the company managed to achieve a 10% increase in deliveries during the quarter, resulting in a 6.53% quarter-on-quarter growth in auto revenues, which reached $21.68 billion.
As mentioned in our previous piece on July 3 titled “Tesla’s Surging Deliveries Imply Free Cash Flow Could Rise – Bullish For TSLA Stock,” the company’s free cash flow (FCF) demonstrated improvement on a quarterly basis. For instance, FCF rose from $0.44 billion in Q1 to $1.0 billion in Q2, despite reduced prices and consistent capital expenditure.
While the stock’s weakness is primarily attributed to the possibility of further price reductions, it hasn’t significantly impacted Tesla’s FCF, offering optimism to TSLA investors and shareholders. This situation also creates an attractive opportunity for income investors interested in shorting OTM puts, which currently command high premiums.
For instance, traders can consider short-selling the Aug. 18 expiration $242.50 strike price puts, yielding $6.10 per contract. With this expiration set 25 days from now, approximately 3 weeks, the strike price is 5.75% below the current spot price of $260.52. The potential income gain is substantial, representing a 2.52% yield for just over 3 weeks. When annualized, this return reaches an impressive 36.7%, assuming this strategy is repeated every 25 days.
Even in the event of a significant decline prompting the trader to buy the stock at $242.50, they can further capitalize on the situation by selling short OTM call options to generate additional income. Furthermore, the lower buy-in cost of $242.50, compared to today’s price, enables the investor to secure the stock at a discount.
However, it is crucial to differentiate this approach from directly holding the stock, particularly if its value rises above the current price. To mitigate risk and reduce the buy-in cost by the premium received, investors may opt to simultaneously buy TSLA shares and short OTM puts.
Overall, considering Tesla’s (NASDAQ:TSLA) potential for continued FCF improvement, the current undervaluation of TSLA stock presents an attractive opportunity for traders.
Featured Image: Unsplash @ Tesla Fans Schweiz
Author Faith Yakubu 
