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By all measures, Netflix is back in the market’s sweet spot.

The stock (ticker: NFLX) is up about 15% this year, compared with a 6% total return for the Standard & Poor’s 500 index. Though the stock, as always, trades with an astronomical valuation – about 73 times forward earnings – many investors are wildly enthusiastic about the stock.

Yet, the options market, which is usually so good at divining the future, seems to be hesitating ahead of the company’s April earnings. Netflix’s options are priced as if the stock will move 8%, up or down, on the April 17 release of first-quarter earnings. For six of the past eight quarters, the stock has moved more than 8%.

Though Goldman Sachs is telling clients to “straddle” Netflix – essentially buying a put and call with identical expirations and strike prices that match the stock price – to take advantage of depressed options pricing, we think investors should consider a more aggressive trade.

With the stock at $145.86, investors can sell Netflix’s April $142 put for $4.55 and buy the April $146 call for $6.10. For a net cost of $1.55, investors gain exposure to any rally above $147.55. They are also positioned to buy Netflix at an effective price of $140.55.

Extremely aggressive traders can consider selling the April $145 put for $5.85, rather than the April $142 put. The $145 strike sharply lowers the trade’s net cost – 25 cents compared with $1.55 – while expressing extreme confidence in an earnings rally, and unbridled desire to buy the stock just below $145.

Regardless of which put is sold, the risk reversal – that is selling a put and buying a call with the same expiration but different strike prices – positions investors to buy the stock on a pullback, and participate in a rally. The trade’s risk is that the stock falls far below the put’s strike price, forcing investors to buy the stock at an unfavorable price, or to pay top dollar to cover the short put. We think the risk is worth it, provided investors can hold the stock for several years if the put is exercised.

Goldman’s strategy is more conservative. The straddle takes advantage of the apparent mispricing, and exposes investors to a rally, or a decline, provided the move exceeds the total trading cost. Though many investors like the idea of making money off nondirectional moves – and it is indeed one of Goldman’s favored approaches when pricing seems depressed ahead of major stock-moving events – straddles are often tough trades if the equity does not behave as expected.

History, however, supports the straddle approach. Since 1996, Goldman has found that buying the closest-listed at-the-money straddle when it costs less than the earnings move five days ahead of the event and closing the day after has produced an average return on a premium of 24% with a 56% hit rate, compared with a 2% return with a 35% success rate for all stocks ahead of earnings.

To be sure, both trades effectively recommend that investors stake positions as the stock dances at the top of its recent trading range. Over the past 52-weeks, the stock has ranged from $84.50 to $147.70.

Prudence perhaps dictates hedging, or taking some profits, but a review of the investment landscape reveals an extraordinary level of support among some members of the investment community.

One analyst has told clients that “If Jesus were a stock, he’d be Netflix. You either believe or you don’t.”

Others talk about Netflix, and they are likely correct, as if it is evolving into a giant entertainment “powerhouse.” In 2016, five of the top 10 shows searched for globally were Netflix originals.

Bottom line: Netflix’s earnings report will be one of April’s major market events. You can trade it, or fade it, and we’ve given you two viable ways to do just that.

STEVEN SEARS is the author of The Indomitable Investor: Why a Few Succeed in the Stock Market When Everyone Else Fails.

Comments: steve.sears@barrons.com

Follow: @sm_sears

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