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The financial sector has been the strongest performer so far in 2012 with XLF sporting a year-to-date gain of 8%. Bank of America (BAC) and Goldman Sacs (GS) have been the two stand outs out amongst big boy banks. Both are currently sitting on gains of 24% and 18%, respectively for 2012, after tanking throughout 2011. There is plenty of momentum behind the sector. Best of all, XLF is at key resistance level on the charts which means a breakout could see the banks make another leg higher.

Instead of continuing to focus on BAC & GS though, we’re going to turn out attention to J.P. Morgan (JPM). Why? Because JPM is has only returned 11% so far this year so we feel there’s more upside at this point compared to BAC or GS. Furthermore, of the three, JPM is the only one that is within 5% of its most recent 5 month high. Why does that matter? Because from a technical perspective JPM is closer to breaking out past resistance. So what is our strategy? Naturally, we’re turning to options.

With JPM right at resistance we don’t see it trading flat next week. More than likely, JPM will either make a solid move in one direction, be it higher, breaking past resistance, or lower, pulling back from resistance. In either sense we want to set ourselves up to profit. Therefore we’ll be buying the 37 strike calls expiring next week for $0.57 as well as buying the 14 strike puts expiring next week on XLF for $0.17.

Our breakeven’s on both of these trades will be long $37.57 on JPM (1.7% above the current price) and short $13.83 on XLF (1.5% below the current price). We like this trade because should JPM rise higher next week our calls will appreciate. Correct, we will lose money on the puts we own in XLF but the most we can lose is $0.17.

Meanwhile, if JPM pulls back XLF will likely pull back with it. So yes, we’ll lose money on our calls in JPM but because we only paid $0.17 for our XLF puts there is a chance that these could easily double in price resulting in 100% gains. The worst case scenario for this trade is if the financial sector (XLF) and JPM trade flat to slightly positive/negative over the next 5 trading days.

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