Buy/ Write Option Ideas: Financials in the Money Edition

Today I will be writing about 15 Financial stocks/ETF’s that I will be (for those I do not currently own) buying the stock on and immediately writing covered calls in the money. All of the strategies outlined in this article have been researched and set so they will give me at least 10% downside protection and return at least 3% by July expiration (excluding strategy #13, and assuming the option expires in the money). To learn more about opening, closing, and trading these strategies check out my E-Books.

The financials have demonstrated a tremendous upside move over the past 3 months (the least volatile of this list, the Financial Select Sector SPDR (XLF) is higher by 68.16% since March 12, 2009 - first Google chart). However as we can see from the second chart of the XLF below, it looks as if the financials have moved sideways in the past month (XLF higher by 15 cents or 1.22%).





I believe financials will continue to consolidate until fall of the year. Historically stocks do not have too much action during the summer months. I have outlined the buy/write strategies below (stocks ranked alphabetically by ticker, ETF’s ranked by volatility). All data as of market close June 11, 2009.

Financial Stocks in the Money

Option Strategy #1: Buy American Express (AXP) stock and sell the July 24 Call option. This will give you downside protection of 10.3%. If your position in American Express gets called out, this will return a total of 4% in 36 days.

Option Strategy #2: Buy Bank of America (BAC) stock and sell the July 12 Call option. This will give you downside protection of 11.8%. If your position in Bank of America gets called out, this will return a total of 4.3% in 36 days.

Option Strategy #3: Buy BB&T (BBT) stock and sell the July 21 Call option. This will give you downside protection of 10.6%. If your position in BB&T gets called out, this will return a total of 3.7% in 36 days.

Option Strategy #4: Buy Bank of NY Mellon (BK) stock and sell the July 27 Call option. This will give you downside protection of 10.5%. If your position in Bank of NY Mellon gets called out, this will return a total of 3.8% in 36 days.

Option Strategy #5: Buy Capital One (COF) stock and sell the July 24 Call option. This will give you downside protection of 10.4%. If your position in Capital One gets called out, this will return a total of 8% in 36 days.

Option Strategy #6: Buy Fifth Third (FITB) stock and sell the July 7 Call option. This will give you downside protection of 14.8%. If your position in Fifth Third gets called out, this will return a total of 4.9% in 36 days.

Option Strategy #7: Buy Goldman Sachs (GS) stock and sell the July 135 Call option. This will give you downside protection of 10%. If your position in Goldman Sachs gets called out, this will return a total of 3% in 36 days.

Option Strategy #8: Buy HSBC (HBC) stock and sell the July 42 Call option. This will give you downside protection of 10%. If your position in HSBC gets called out, this will return a total of 3.2% in 36 days.

Option Strategy #9: Buy JPM Morgan (JPM) stock and sell the July 33 Call option. This will give you downside protection of 10%. If your position in JP Morgan gets called out, this will return a total of 4.4% in 36 days.

Option Strategy #10: Buy Morgan Stanley (MS) stock and sell the July 28 Call option. This will give you downside protection of 10.2%. If your position in Morgan Stanley gets called out, this will return a total of 5.1% in 36 days.

Option Strategy #11: Buy PNC Financial (PNC) stock and sell the July 41 Call option. This will give you downside protection of 10%. If your position in PNC gets called out, this will return a total of 6.5% in 36 days.

Option Strategy #12: Buy Wells Fargo (WFC) stock and sell the July 23 Call option. This will give you downside protection of 12.2%. If your position in Wells Fargo gets called out, this will return a total of 4.1% in 36 days.

Financial ETF’s in the Money

Option Strategy #13: Buy the Financial Select Sector SPDR (XLF) ETF and sell the September 12 Call option. This will give you downside protection of 10.5%. If your position in the XLF gets called out, this will return a total of 7.2% in 99 days (I don’t like writing options or holding positions in any volatile sector more than 50 days, so I’ll most likely write the XLF out for a strike above the current share price).

Option Strategy #14: Buy the Proshares Ultra Financials (2X leveraged ETF) (UYG) ETF and sell the July 4 Call option. This will give you downside protection of 11.8%. If your position in the UYG gets called out, this will return a total of 6.6% in 36 days.

Option Strategy #15: Buy the Direxion Daily Financial Bull (3X leveraged ETF) (FAS) ETF and sell the July 10 Call option. This will give you downside protection of 15.4%. If your position in the FAS gets called out, this will return a total of 11.5% in 36 days.

These options expire on July 18, 2009 (excluding the XLF, that expires September 19, 2009) therefore the last trading day is Friday July 17, 2009. As you can see the less volatile the underlying stock the less the return % by expiration is. In the case the option expires out of the money (dead) I just write it out for a similar strike for the following month.

If you are more bullish/bearish you’ll want to adjust the strike price and expiration accordingly. If you’re more bearish write deeper in the money calls, you will not return as much if you get called out, but if you do, and the overall market is down you’ll most likely outperform the market.

Out of these 15 strategies, the strategy which appeals most to me is the FAS July 10. However I may decide to write some of my FAS out for the July 9 and July 11 as well. For other strategies like these subscribe to my blog.


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The New Dow: How the DJIA is Calculated

As recently posted on my blog is an Excel spreadsheet which calculates the Dow Jones Industrial Average. For those who are finding this for the first time, I will repeat some of the introductory part of the article below.

Many times I've heard people say why is the Dow Jones Industrial Average (DJIA) so much higher than the S&P 500, when the DJIA consists of just 30 stocks and the S&P 500 consists of 500? The answer to this is quite easy and just takes a little calculating. The Dow Jones Index is weighted unlike the S&P 500. The S&P 500 is weighted by market cap; the larger the stock the more affect it has on the daily move of the S&P index. However the DJIA has a weighting so that a 1 point move in any of the 30 stocks will move the index by an equal number of points. To understand this you need a quick history lesson. In 1896 to be exact the index consisted of just 12 stocks, and to get the average back then all you'd need to do is divide the total price of all 12 stocks by 12... Easy isn't it! As you may know it is not that easy, and this is not how you get the average. Over time stocks were added and taken out of the index, as well as stock splits and spinoffs, etc... In order to keep the DJIA consistent the "divisor" must also change. The current divisor is published on page C4 of the Wall Street Journal daily.

UPDATE:

However Monday June 8, 2009 the Dow was changed. Both the Divisor and two of the components were changed; Citigroup (C) and General Motors (GM) were replaced by Travelers (TRV) and Cisco (CSCO). The current divisor as of June 10, 2009 is 0.132319125.

To get an idea of what this means we'll divide 1 point by the divisor and we get 7.5575. This means that a 1 point change in any of the 30 stocks will move the index up/down by 7.5575 points. For example we'll say that 28 of the 30 Dow components finish the day unchanged but Bank or American (BAC) and Caterpillar (CAT) both moved higher by 1 point, we could calculate the index average change by dividing 2 (total move of the stocks added together) by the divisor... The index would move higher by 15.12 points on this day. Since all of the 30 Dow stocks are weighted so that a one point change affects the index equally, one would have to take the sum of all 30 stock prices in the Dow index and divide by the Dow divisor. However this does not take into account the larger priced stocks in the index such as International Business Machine (IBM) which may affect the overall point change greater than the lower priced stocks. This is illustrated by showing that a 1% move in IBM and a 1% move in BAC. A 1% move in IBM (108.35 per share as of close June 10, 2009) would put the index higher by 8.19 points, while a 1% move in BAC (11.98 as of close June 10, 2009) would put the index higher by 0.91 points. As you can see the lower the price of the stock the less affect it has on the index change.

I have designed an Excel spreadsheet of the Dow 30 components, their point and % composition of the index, and how it would affect the Dow Jones Index if any given security in the Dow went to 0. You will also see from this spreadsheet what the 52 week high and 52 week low for the index would be if all 30 components were simultaneously at their 52 week high or 52 week low (extremely unlikely). As of June 10, 2009 the total sum of all 30 Dow stock prices is equal to 1156.34, which when divided by the current divisor will give you the close price 8739.02. You can constantly update the spreadsheet I have designed by clicking the “data” tab, and “refresh all”. The resulting change in the Dow Index column is not always 100% accurate; this is because sometimes websites or other publications report the prices of the DJIA components as a composite of all the exchanges rather than just the price from that company’s primary exchange. However, the point composition for each component and their sum is always accurate. It is recommended that you have Excel 2007. Some have run into problems downloading with Internet Explorer so Firefox or Google Chrome is recommended.

Click here to download the Excel spreadsheet.

Click here to download the Excel spreadsheet for Microsoft 97-2003.

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Got the Palm Pre... I Love it!

I decided to post a quick update to my weekend posts about not getting the Palm Pre. I purchased one yesterday and I absolutely love it. The phone is very smooth (and I mean smooth) and I have no problem with the keyboard- in my opinion, it's way better than the on-screen keyboard on the HTC Touch Pro. Ss far so good, I have downloaded a few apps to try like Express Stocks and I like it a lot. I have not run into any battery problems yet, but I have only had the phone for about 24 hours. As of now I give my Palm Pre the stamp of approval!


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Calculating Option Probability

I have had a lot of questions about how I get option probabilities, so I decided to create this post. There are several ways that option probability is calculated, and all yield different results. The probabilities I use in most of my blog posts and articles are from the Greek Delta value. Delta gives the amount the option price (premium) will change in value with each additional $1 move in the underlying stock, it also gives a value known as the risk neutral probability. Delta changes on a constant basis, as the input values change to calculate it (underlying stock price, days left until expiration, volatility, interest rate, etc...). Delta also varies among the different brokerages as they may use different input values to calculate it. The reason I use Delta (risk neutral probability) is because it is very easy to obtain (when I am giving 10 or more option ideas, it saves me a lot of time) and gives me a general idea of what the CURRENT options market is factoring in for that strike price. The Delta (risk neutral probability) will almost never be the same value two days in a row (I have never noticed it being the same in my experience with trading options). Too much emphasis should never be placed on option probability, as there are just too many variables that affect it on a day to day basis.

For a quick example check out the Delta value on an option that is very deep in the money and close to expiration, the delta should be very high (maximum 1). Let's say Delta is .97 for strike price X which means with each $1 change in the underlying stock the option price (premium) for strike X changes by $0.97 (97 cents), and the current options market is factoring in a 97% chance the stock closes at or above strike price X at expiration.

As stated before too much emphasis should never be placed on Delta (risk neutral probability), or any other variable for that matter.


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10 Breakout Stock Candidates to Watch Trading Week of June 8

Here is an updated list of 10 stocks I'll be looking to trade as of market open June 8, 2009. These are the current highest bull/bear rated stocks my screener has returned. Looks as if there’s no specific trend among these stocks this week; last week there was a trend among the commodities, especially mining and gold stocks, among the speculation of a U.S. credit downgrade. To get a detailed definition of the bull/bear components check my Bull/Bear Ratio Defined Blog post by clicking here.

Aruba Networks, Inc (ARUN) 14:0
BioDelivery Sciences International, Inc. (BDSI) 13:0
ClickSoftware Technologies Ltd. (CKSW) 13:0
Palomar Medical Technologies, Inc. (PMTI) 13:0
Affymetrix, Inc. (AFFX) 13:0
Amtrust Financial Services, Inc. (AFSI) 13:0
Lithia Motors, Inc. (LAD) 13:0
Global Partners LP (GLP) 13:0
HLS Systems International Ltd. (HOLI) 13:0
ArQule, Inc. (ARQL) 13:0

These are the top stocks and have not received as bullish ratings in the past few weeks. I would use extreme caution if planning to purchase any of these stocks and would do some extensive research before I jumped in any of them. These will certainly be on my watch list the next few trading days. I'll wait for a 7-10% pull back to purchase any of them and set a tight stop loss if I happen to purchase any of them. If I purchase any of them, I will be selling into strength.

Current Bull/Bear Ratings for many of the stocks I blog about frequently:
Visa (V) 9:1
Caterpillar (CAT) 9:3
Research in Motion (RIMM) 10:1
Palm (PALM) 11:1
Google (GOOG) 11:1
Bank of America (BAC) 6:4
Sirius Satellite Radio (SIRI) 1:11

For those in the first list I will be looking to purchase call options on some of them (some do not have options).


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10 Option Ideas on Extremely Bullish Stocks

In this article are some buy/write option ideas on some of the best rated stocks (according to Investor's Business Daily (IBD). To see more about the criteria used in rating these stocks click here. I have outlined ways to play these stocks using the buy/write option strategy. For more on this strategy check out my E-Book

The list below is ranked in order from the lowest IBD score to the highest IBD score which is indicated after the ticker symbol. All of these stocks are rated A+ and have a greater than 95 composite rating. I chose the highest possible option strike price with a greater than 40% chance (risk neutral probability) of expiring in the money for the July option expiration (all data as of pre-market June 8, 2009).

Option Idea #1: Buy Apple (AAPL) (rated 95) stock and sell the July 150 Call option. This will give you downside protection of 4%. If you get called away this will return a total of 7.7% in less than 42 days. The current options market is factoring in 42.8% probability Apple expires above the indicated strike.

Option Idea #2: Buy Visa (V) (rated 97) stock and sell the July 70 Call option. This will give you downside protection of 4.5%. If you get called away this will return a total of 5.5% in less than 42 days. The current options market is factoring in 49.3% probability Visa expires above the indicated strike.

Option Idea #3: Buy Google (GOOG) (rated 98) stock and sell the July 460 Call option. This will give you downside protection of 2.9%. If you get called away this will return a total of 6.5% in less than 42 days. The current options market is factoring in 42.8% probability Google expires above the indicated strike.

Option Idea #4: Buy Joy Global (JOYG) (rated 98) stock and sell the July 41 Call option. This will give you downside protection of 8.1%. If you get called away this will return a total of 9% in less than 42 days. The current options market is factoring in 52.2% probability Joy Global expires above the indicated strike.

Option Idea #5: Buy A-Power Energy Generation Systems (APWR) (rated 99) stock and sell the July 17.50 Call option. This will give you downside protection of 3.3%. If you get called away this will return a total of 35.9% in less than 42 days. The current options market is factoring in 43% probability A-Power expires above the indicated strike.

Option Idea #6: Buy Baidu (BIDU) (rated 99) stock and sell the July 320 Call option. This will give you downside protection of 5.1%. If you get called away this will return a total of 10.3% in less than 42 days. The current options market is factoring in 42.6% probability Baidu expires above the indicated strike.

Option Idea #7: Buy Longtop Financial Technologies (LFT) (rated 99) stock and sell the July 30 Call option. This will give you downside protection of 8.1%. If you get called away this will return a total of 9.8% in less than 42 days. The current options market is factoring in 51.7% probability Longtop expires above the indicated strike.

Option Idea #8: Buy Perfect World (PWRD) (rated 99) stock and sell the July 25 Call option. This will give you downside protection of 5%. If you get called away this will return a total of 12% in less than 42 days. The current options market is factoring in 40.2% probability Perfect World expires above the indicated strike.

Option Idea #9: Buy Research in Motion (RIMM) (rated 99) stock and sell the July 85 Call option. This will give you downside protection of 7%. If you get called away this will return a total of 9.8% in less than 42 days. The current options market is factoring in 49.1% probability Research in Motion expires above the indicated strike.

Option Idea #10: Buy STEC (STEC) (rated 99) stock and sell the July 20 Call option. This will give you downside protection of 5.9%. If you get called away this will return a total of 13.6% in less than 42 days. The current options market is factoring in 41.7% probability STEC expires above the indicated strike.

These options expire on July 18, 2009 therefore the last trading day is Friday July 17, 2009. As you can see the higher the probability of expiring above the indicated strike, the lower the premium (this should make sense). In the case the option expires out of the money (dead) I just write it out for a similar strike for the following month.

If you are more bullish/bearish you’ll want to adjust the strike price accordingly. If you’re more bearish write deeper in the money calls, you will not return as much if you get called out, but if you do, and the overall market is down you’ll most likely outperform the market.

From these 10 stocks the ones which appeal most to me are Longtop Financial, and A-Power. I already own A-Power and will not get out of my position until I become less bullish on oil. As for Longtop I am looking to get into the stock on a pull back and then wait for a pop to write it out. For more option strategies subscribe to my blog.


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