Thursday, February 23, 2017

Established New Position in Alibaba Group Holding Ltd.

Today, the Covered Calls Advisor established a new position in Alibaba Group Holding Ltd. (ticker symbol BABA) by selling five Mar2017 Put options at the $100.00 strike price. This position is a conservative one since it was established when the price of Alibaba was $102.77 (2.7% downside protection to the strike price) and 23 calendar days remaining until the options expiration date.

As detailed below, the Alibaba Group Holding Ltd. investment will yield a +1.25% absolute return in 23 days (which is equivalent to a +19.9% annualized return-on-investment) if Alibaba stock closes above the $100.00 strike price on the March 17th options expiration date. 

The Covered Calls Advisor does not use margin, so the detailed information on this position and these results shown below reflect that this position was established using 100% cash securitization for the five Put options sold.

Alibaba Group Holding Ltd (BABA) --New 100% Cash-Secured Put Options Position
The transaction was as follows:
02/23/2017  Sold 5 BABA 100% cash-secured $100.00 Put options with Mar2017 expirations @ $1.26
Note: the price of Alibaba was $102.77 today when this transaction was executed.

A potential performance result (including commissions) could be as follows:
100% Cash-Secured Cost Basis: $50,000.00
= $100.00*500

Net Profit:
(a) Options Income: +$626.50
= ($1.26 * 500 shares) - $3.50 commissions
(b) Dividend Income: +$0.00
(c) Capital Appreciation (If BABA closes above $100.00 strike price at Mar2017 expiration): +$0.00
= ($100.00 -$100.00)*500 shares

Total Net Profit: +$626.50
= (+$626.50 options income +$0.00 dividend income +$0.00 capital appreciation)

Absolute Return: +1.25%
= +$626.50/$50,000.00
Annualized Return: +19.9%
= (+$626.50/$50,000.00)*(365/23 days)

The downside 'breakeven price' at expiration is at $98.74 ($100.00 - $1.26), which is 3.9% below the current market price of $102.77.

Using the Black-Scholes Options Pricing Model in the Schwab Hypothetical Options Pricing Calculator, the probability of making a profit (if held until the Mar 17th, 2017 options expiration) for this Alibaba short Puts position is 69%. This compares with a probability of profit of 50.2% for a buy-and-hold of this Alibaba stock over the same time period. Using this probability of profit of 69%, the expected value annualized return-on-investment (if held until expiration) is +13.7% (+19.9% maximum potential annualized return on investment * 69%), an attractive risk/reward profile for this somewhat conservative investment.  
The 'crossover price' at expiration is $104.03 ($102.77 + $1.26).  This is the price above which it would have been more profitable to simply buy-and-hold Alibaba stock until the Mar2017 options expiration date rather than selling these Put options.

Tuesday, February 21, 2017

Where Are We Now on the Emotional Roller Coaster of Investing?

Periodically, I like to re-visit the Emotional Roller Coaster of Investing to think about where we are in the cycle. The chart below shows how different emotional states of investors change with the stock market. The green sections are normally bullish times to be invested whereas the red portions are bearish times.










Many studies have documented how individual investors, and even professionals, chase performance. When markets are doing well, investors get less concerned about risk and put their money to work in investments that have been doing well recently. Too often that means investing while looking through a rear view mirror. Unfortunately, that is often opposite of what we should be doing. This reality is confirmed by three of the most renowned investors of the past century:
- "The time of maximum pessimism is the best time to buy and the time of maximum optimism is the best time to sell" -- John Templeton
- "We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful" -- Warren Buffett
- "I have every confidence in the threefold merit of this general method based on (a) sound logic, (b) simplicity of application, and (c) an excellent supporting record. At bottom it is a technique by which true investors can exploit the recurrent excessive optimism and excessive apprehension of the speculative public." -- Benjamin Graham

So, Where Are We Now on the Emotional Roller Coaster of Investing?
It is certainly more of an art than a science, but my own assessment is that we are now in the 'exhiliration' stage. To better understand the various stages, let's consider how investors' emotions have corresponded to our recent stock market history. The bull market 'euphoria' ended in October 2007 when the Dow peaked at slightly about 14,000. During the winter of 2007/2008, 'unease' began to set in as the Dow declined below its 200-day moving average. In the Spring of 2008 a decline in real estate values began to become apparent and investors transitioned to the 'denial' stage since it was so hard to believe that our long-held assumption of neverending increases in the value of real estate then appeared to be in jeopardy. 'Pessimism' ensued as the stock market continued its steady decline into the summer as the credit crunch became more apparent and the price of oil reached $150 per barrel. 'Panic' occurred in the autumn of 2008 with financial bailouts of some large banks; and culminated in the September bankruptcy of Lehman Brothers. The stock markets' steep decline continued through the winter of 2008/2009 with 'capitulation' occurring from late January to early March of 2009 when the market quickly declined by another 20%. Investors were clearly in 'despair' as the Dow reached its closing low of 6,547 on March 9th, 2009. It is said that "Hindsight is 20/20", but that low point turned out to be what John Templeton called "the time of maximum pessimism" and thus "the best time to buy".

During the subsequent almost 8 years since that March 2009 low, the Dow has rebounded 217% to its current all-time high level above 20,700. During this period, the market has been climbing the proverbial "wall of worry". Investors have had 'hope' that the worst was over, but nevertheless continued to fear a return of the bear market. My current belief is that the recent strongly bullish stock market move is signaling the transition from 'enthusiam' to 'exhiliration'. 

If we are now in the 'exhiliration' stage, then the next question would be: What would enable us to move to the next stage of 'euphoria', thus signaling a likely market top? My first caveat is that it is unrealistic to expect to accurately forecast future events, but the single most likely event that could propel the market even higher and into the 'euphoria' stage would be passage this year of a tax reform bill similar to that currently being developed by Congress that would include a reduction in the corporate tax rate from its current 35% level to somewhere in the 20% to 25% range -- a change that would certainly be a substantial benefit to future corporate earnings prospects for many companies currently paying above 30% in Federal taxes.

On the other hand, it is also possible that rather than advancing to the 'euphoria' stage, we could jump directly to 'unease'.  This would most likely occur with continuing Congressional gridlock that results from an inability to obtain approval on a bill that would achieve the proposed reductions in the current corporate and individual tax rates.  This 'unease' would signal an end of this 8-year long bull market.  The current uncertainty and concern that we might be near a market top is also reflected in the Covered Calls Advisor's current Overall Market Meter rating of Slightly Bearish (see right sidebar) as detailed in the most recent post on this topic here: link.  Given the current uncertainty in this regard, a prudent investing stance favors the current recommendation of the Covered Calls Advisor's Overall Market Meter, namely to establish slightly in-the-money Covered Calls (at strike prices below the current stock price).

I hope this article is helpful in stimulating your own thinking about the current state of the market and also the importance of not allowing our emotions to have an adverse effect on our investment decision-making.

Do you agree or disagree that we are now most likely in the 'exhiliration' stage? Why?

As always, I welcome your comments. Please email me at the address shown in the upper-right sidebar.

Godspeed,
Jeff

Continuation of Las Vegas Sands Corp. Position

Upon the February options expiration last Friday, twelve of the thirteen positions were in-the-money and the positions were closed.  The one position that was out-of-the-money (strike price of $52.50 and stock closed Friday at $52.03) was Las Vegas Sands.  So, the five Put options in Las Vegas Sands Corp. (ticker symbol LVS) were assigned and 500 shares of Las Vegas Sands stock were purchased at the $52.50 strike price.  Today, the Covered Calls Advisor continued the LVS investment by establishing a covered calls position by selling five Apr2017 Call options against the 500 LVS shares held. The company has also declared a quarterly dividend of $.73 which will go ex-dividend on March 21st (before the Apr2017 options expiration on Apr 21st).

A potential return-on-investment is +4.0% absolute return (equivalent to +16.6% annualized) for the 88 days of this Las Vegas Sands investment. Details of the transactions to-date including the potential return-on-investment result are provided below:


Las Vegas Sands Corp (LVS) -- Continuation
The transactions are as follows:
01/23/2017 Sold 5 LVS Feb2017 $52.50 Puts @ $.78
Note: The price of LVS was $55.35 when this transaction was executed.
02/17/2017 5 Put options assigned and 500 shares of LVS purchased at the $52.50 strike price.
Note: the price of LVS was $52.03 at market close at Feb2017 options expiration
02/21/2017 Sold 5 LVS Apr2017 $50.00 Call options @ $3.10
Note: the price of LVS was $52.14 when these Call options were sold
03/21/2017 Ex-dividend of $365.00 = 500 shares x $.73 per share
04/21/2017 Future Apr2017 options expiration date

A possible overall performance result (including commissions) for this transaction would be as follows:
100% Cash-Secured Cost Basis: $26,256.95
= $52.50*500 - $6.95 commission

Net Profit:
(a) Options Income: +$1,933.00
= ($.78 + $3.10) *500 shares) - $7.00 commissions
(b) Dividend Income: +$365.00
= $.73 per share x 500 shares
(c) Capital Appreciation (If LVS is above $50.00 strike price at Apr2017 expiration): -$1,250.00
= ($50.00-$52.50)*500 shares

Total Net Profit (If LVS is above $50.00 strike price upon the Apr2017 options expiration): +$1,048.00
= (+$1,933.00 +$365.00 -$1,250.00)

Absolute Return (If LVS is above $50.00 strike price at Apr2017 options expiration): +4.0%
= +$1,048.00/$26,256.95
Annualized Return: +16.6%
= (+$1,048.00/$26,256.95)*(365/88 days)

For the covered calls position established today, the downside 'breakeven price' at expiration is at $48.31 ($52.14 - $.73 -$3.10), which is 7.3% below the current market price of $52.14.

Using the Black-Scholes Options Pricing Model in the Schwab Hypothetical Options Pricing Calculator, the probability of making a profit (if held until the Apr 21st, 2017 options expiration) for this Las Vegas Sands covered calls position is 63.7%. This compares with a probability of profit of 50.3% for a buy-and-hold of LVS stock over the same time period. Using this probability of profit of 63.7%, the Expected Value annualized ROI of this investment (if held until expiration over the next 60 days) is +13.5% (+21.2% * 63.7%).

The 'crossover price' at expiration is $54.51 ($52.14 + $3.10 - $.73).  This is the price above which it would have been more profitable to simply buy-and-hold Las Vegas Sands stock until April 21st (the Apr2017 options expiration date) rather than establishing this covered calls position.

Saturday, February 18, 2017

February 2017 Option Expiration Results

The Covered Calls Advisor Portfolio (CCAP) for the February 2017 options expiration benefited from the ongoing bull market and good results from those companies in the portfolio that released earnings reports during the past month. 

Twelve of the thirteen Feb2017 positions closed in-the-money at expiration, so the maximum possible return-on-investment result was achieved for each of these twelve positions: Alibaba Group Holdings, Amazon.com Inc., Capital One Financial, Celgene Corporation, Citigroup Inc., Energy Transfer Equity LP, Facebook Inc., Hanes Brands Inc., Hawaiian Holdings Inc., HCA Holdings Inc., JetBlue Airways Corp., and Metlife Inc.

For the other position (Las Vegas Sands Corp.), the price of the stock closed at $52.03 (below the $52.50 strike price). So the short Put options were assigned and 500 shares were purchased at $52.50. The shares will remain in the Covered Calls Advisor Portfolio until they are either sold or a continuation covered calls position is established by selling Mar2017 call options against the shares owned.

I.  For the twelve closed positions:
The return-on-investment results for each position was:
  • Alibaba Group Holdings = +2.6% absolute return (+26.7% annualized return)
  • Amazon.com Inc. = +2.3% absolute return (+22.9% annualized return)
  • Capital One Financial = +0.8% absolute return (+24.9% annualized return)
  • Celgene Corporation = +2.1% absolute return (+30.1% annualized return)
  • Citigroup Inc. = +5.8% absolute return (+68.5% annualized return)
  • Energy Transfer Equity LP = +3.7% absolute return (+70.3% annualized return)
  • Facebook Inc. = +1.6% absolute return (+30.1% annualized return)
  • Hanes Brands Inc. = +3.1% absolute return (+29.8% annualized return)
  • Hawaiian Holdings Inc. = +1.4% absolute return (+15.4% annualized return)
  • HCA Holdings Inc. = +2.0% absolute return (+39.1% annualized return)
  • JetBlue Airways Corp. = +1.9% absolute return (+33.9% annualized return)
  • Metlife Inc. = +1.3% absolute return (+25.0% annualized return)
The cash now available in the Covered Calls Advisor Portfolio from the closing of these positions will be retained until new Covered Calls and/or 100% Cash-Secured Puts positions are established.  Any new positions established with this available cash will be posted on this site on the same day the transactions occur.  As examples of how return-on-investment results are calculated, one short 100% Cash-Secured Put options position (Alibaba) and one Covered Calls position (Capital One Financial) are presented in detail below.  


1. Alibaba Group Holdings -- 100% Cash-Secured Put Options Position Closed at Expiration
The transactions were as follows:
01/12/2017 Sold 4 Feb2017 $92.50 Puts @ $2.46
Note: The price of Alibaba was $95.13 when this transaction was executed.
02/17/2017 4 short BABA options expired
Note: the price of BABA was $100.52 upon options expiration 

The overall performance result (including commissions) for these short Alibaba Put options was:
Investment (100% Cash-Secured Basis): $37,000.00
= $92.50*400 shares

Net Profit:
(a) Options Income: +$974.25
= 400*$2.46 - $9.75 commissions
(b) Dividend Income: +$0.00
(c) Capital Appreciation = +$0.00 (short Put options expired)

Total Net Profit: +$974.25
= (+$974.25 options income +$0.00 dividend income +$0.00 capital appreciation)

Absolute Return: +2.6%
= +$974.25/$37,000.00
Annualized Return: +26.7%
= (+$974.25/$37,000.00)*(365/36 days)

2. Capital One Financial -- Covered Calls Position Closed at Expiration
The transactions were as follows:
02/06/2017  Bought 300 Capital One Financial shares @ $87.78
02/06/2017 Sold 3 COF Feb2017 $85.50 Call options @ $2.63
Note: this was a simultaneous buy/write transaction.
02/09/2017 Ex-dividend of $120.00 ($.40 per share x 300 shares)
02/17/2017 3 COF Call options were in-the-money at the Feb2017 options expiration, so 300 shares of COF were sold at the $85.50 strike price
Note: the closing price of COF was $91.81 upon the options expiration

The overall performance result (including commissions) was as follows:
Bought 300 shares COF: $26,340.95
= $87.78*300 + $6.95 commission

Net Profit:
(a) Options Income: +$786.90
= ($2.63*300 shares) - $2.10 commissions
(b) Dividend Income: +$120.00
= $.40 per share * 300 shares
(c) Capital Appreciation (COF was above $85.50 strike price at Feb2017 expiration): -$690.95
= ($85.50-$87.78)*300 shares - $6.95 commissions

Total Net Profit (COF was above $85.50 strike price at Feb2017 options expiration): +$215.95
= (+$786.90 options income +$120.00 dividends -$690.95 capital appreciation)

Absolute Return: +0.8%
= +$215.95/$26,340.95
Annualized Return: +24.9%
= (+$215.95/$26,340.95)*(365/12 days)


II. For the one continuing position:
The position that ended at Feb2017 options expiration with the price of the stock below the strike price was Las Vegas Sands Corp (500 shares of  LVS stock).

This position in Las Vegas Sands is included in the listing of the current Covered Calls Advisor Portfolio shown in the right sidebar on this page. For this position, the long shares will remain in the Portfolio until they are either sold or new Covered Calls are established by selling associated Mar2017 options against the stock currently held.   In either case, transactions and overall position results will be posted on this site on the same day they occur.