Chipotle Mexican Grill Stock Down 34%

A lot of investors have been emailing wondering what I think of Chipotle Mexican Grill Stock now that it has fallen dramatically. This stock which trades on New York under the symbol CMG, was devastated by the news of an outbreak of an E. coli strain in a number of their restaurants.

Not only did investors dump shares but analysts such as those at JP Morgan downgraded the stock which has continued to add to the decline in the shares.

With the stock now down 34% from its most recent high of $757 a lot of investors are thinking of selling put options and / or buying options to profit in the ongoing decline and what could be a spectacular recovery. Investors are drawn to these types of declines because of the higher than normal option premiums. However high option premiums also indicate a high level of volatility which often translates into losses after entering the trade.

CMG Stock 6 Month Chart

The CMG Stock chart for the past 6 months below shows the severe decline in Chipotle Mexican Grill Stock. There are signs though that at $500, the stock may be at or certainly nearing a bottom unless there is more “bad” news to follow. If there is, the stock will resume its downtrend.

At the present time though, the stock is showing sideways action with limited buying which often indicates a bottoming process. The prior periods of the stock attempting to bottom were met by sellers on every spike up which drove the stock still lower. The present level of around the $500 valuation is not seeing the typical bounce back which often is simply a bounce before lower lows. Instead investors are finally more cautious and are not picking up shares for a spike higher, which is usual a signal of a coming bottom in a sell-0ff.

The decline in CMG Stock is showing signs of stabilizing

CMG Stock Game Plan

To profitably trade CMG Stock at this stage of the decline needs a game plan. CMG stock is not one that I trade. However for those who are following the stock, the best course for those selling put options is to use credit put spreads. Any credit put spread done since Oct 20, should have ended up with large profits simply because the long side of the credit put spread would have resulted in large gains while the short side would have given back losses to any investors.

CMG Stock Credit Put Spread

At the $500 level, the credit put spread should still provide protection against any further declines. For example, selling the Jan 15 expiry $460 put strike would earn $7.10 at the time of writing this article. Buying the $440 put strike for the same expiry would cost $4.00. This creates of spread of $20 and the potential to earn $3.10. If the stock should continue to decline down to $400.00 for example, an investor would lose $16.90 on the spread but earn $40.00 on the $440 long put.

CMG Stock Credit Call Spread

For those investors who keep asking about selling calls, the same strategy I think, has to be used. If the desire is to profit from selling calls, going in naked could ended with large losses should the stock recover and roar back up. By using credit call spreads, an investor has some protection from the long call bought. Basically it is the credit put spread in reverse.

Buying CMG Stock Calls

For those investors who keep wondering about buying call options, I still think debit call spreads are a far better idea. For example, the Jan 15 $500 call strike would cost $13.50 at the time of my writing. If the stock should continue to fall and is below $500 by January 15 options expiry, all the money spent on buying call options is lost.

Instead, consider selling the $530 call strike for January 15 expiry. This would earn $4.10 and reduce the cost for the debit call spread from $13.50 to $9.40. If CMG Stock stays below $500 by January 15, the total loss taken would be reduced to $9.40 per share.

If on the other hand, the stock should rise to $538.00, you would earn $30.00 on the calls less $9.40 for a gain of $20.60. Your profit would be capped by the $530.00 call strike sold unless you decided to roll up, if the stock rallies back.

Think Protection

When any stock falls, the temptation is to jump in and grab some shares or trade some options while the stock appears “cheap”. The problem is the stock can always become cheaper. Instead of trying to trade and profit from a rapidly declining stock think about protection of capital being used, first. By considering strategies that can protect some or all the capital being used, an investor is more likely to look at the decline in a stock from a defensive rather than offensive position. This often leads the investor to “look before he leaps” and not surprisingly, most reconsider the risk to their portfolio which is associated with trading against a rapidly declining stock like CMG.