Today, let’s look at another covered call trade.
Micron Technology (MU) trades at $7.10. Here is the option table for January 2013:
The $7.50 strike looks interesting to me. If you buy 1000 shares of the stock, and sell 10 of this call, your out of pocket is $5270. This is 26% below the current price. If Micron doesn’t move at all in the next 16 months, you still own the shares, but are 35% ahead. If the stock trades above $7.50, it can get called away, and the maximum gain on this trade is 42%.
A glance at key statistics shows cash ($2.4B) far higher than debt ($1.57B) and a book value per share of $8.55. Keep in mind, there’s always risk when purchasing individual stocks, this trade should be part of a well thought out portfolio. In general, these are the covered call trades I like, where the premiums are high enough that even a 15% drop in the stock price over a year’s time will still result in a profitable trade.
Note & Disclosure – I executed this trade today, and updated the numbers to reflect actual trade. The call was sold for $1.83, lower than the $1.97 above as the stock was at $7.10 when the trade occurred.
Update – 9/15/11 Bought for out of pocket $5270, 1/18/13 sold for $7491, as mentioned above, a 42% return. This was over a period of 491 days for a simple annual return of 31.2%/yr.
On Jan 18th, Micron closed at $7.89, so the stock rose 11% during this time. In hindsight, this trade was ideal. The stock closed only a bit above the strike price, so no money was left on the table. For the stock buyer to get the same 42% return, Micron would have had to close above $10. The fellow that bought the option paid me $1.97 but was only in the money for $0.39 so he lost $1.58 per share, being correct the stock would rise, but it didn’t rise nearly enough to put him in the black.
On a final note, you can see this to be a case where an option trade was less risky than simply buying the stock. Could Micron have dropped in price? Of course. Had it fallen more than 26%, I’d still have a loss. If it had gone above $10 or so, I’d have gained less than those just buying the shares. I gave up some potential gain to lower my cost. Trades like this don’t come around every day. You can see exactly why I thought this to be a valuable trade going into it. I’ll continue to share my option experience, the bad as well as the good.