Covered call: AA and AA HL

July 23rd, 2009 · 1 Comment

Earlier this week I executed another covered call trade, this time using Alcoa (AA) and the Aug09 $11 call (AA HL).  This wasn’t quite according to earlier mentioned plans, and I’m now wondering if I made a mistake.

How much does AA get each time one of these is produced?

How much does AA get each time one of these is produced?

I know I just posted about searching for our next covered call using the constituents of a modified 2009 Dividend Aristocrats list, but it turned out that we simply didn’t have enough cash to cover the net debit for any of the companies paying dividends by August expiry.  Nor did the net debit drop enough when I considered trades out to the Sep09 options, even after expanding the list to companies paying dividends by September expiration.  So what to do?  While it wasn’t enough cash to make any of these trades, it was more than I wanted to leave simply sitting there earning a 0.05% APY (if even that much!) by leaving it in TradeKing’s core account.  I could either move the cash out to a high-yield OSA, or look elsewhere for investment opportunities.  I chose the latter.  Perhaps mistake number 1?

So I then looked at the latest posted screen over at ETFCoveredCalls.com and couldn’t find anything I felt comfortable with who’s net debit fit into our cash available either.  I’m scared off UNG due to the potential regulatory changes.  There are a number of juicy leveraged ETFs that might have fit the bill, but I don’t want to hold these for as long as a month.  I considered holding in cash for two weeks, than doing a covered call with two weeks left until August expiration, but eventually decided against that as I’m still not sure I feel comfortable enough with these ETFs.  Mistake number 2?

I then turned towards TradeKing’s own options strategy screener.  This is a Java web-app that allows you to pick various filters for securities and screen them against numerous options strategies and rank the results according to several possible analysis results.  For example, you can screen the DJIA for short-term covered calls (i.e. Aug or Sep 09) where the capital requires is less than $2K.  You can then rank the results by risk/reward, probability, profitability, etc.   I tried a number of different configurations for the screener and eventually came up with 4 possible trades to watch when the markets opened on Monday.   All four were large cap, individual company, high-volume stocks who had a consistent history of paying dividends prior to August expiration: AA, ALTR, GE, PFE.  None are Dividend Aristocrats though.

Here’s the analysis of the trade that I actually completed.  As before, I’ve included all commissions in the prices which is why I go out to fractions of a cent.  And I’m using the ex-dividend date as the date of record for the dividend.

Critical Dates:
2009.07.21: Initial position: BTO 200 AA @ $10.65475
2009.07.21: Initial call option: STO 2 AA HL (Aug09 $11) @ $0.3387 (after commissions)
2009.08.06: Dividend received: DIV 200 @ $0.03

Summary, IF CALLED 1 day prior to ex-dividend date
Days position held: 15
Capital investment: $2063.21
Income received: $67.74
Net profit if called: $131.80
Percent return if called: 6.39%
Annualized yield if called: 351.23%

Summary, IF CALLED at expiration, with dividend
Days position held: 32
Capital investment: $2063.21
Income received: $73.74
Net profit if called: $137.80
Percent return if called: 6.68%
Annualized yield if called: 109.06%

And now we get to potential mistake number 3: Looking back on this, it seems that I really forced myself into this trade because I wanted to find something to do with cash.  While Alcoa is certainly geographically diversified (operating in 35+ countries), and aluminum has a fairly natural wide-moat due to the costs of producing it, it also is NOT a high-yielding stock that I really want to hold for the long term.  We have enough exposure to metals & mining through our other investments.  Yes, AA is down significantly from it’s highs but I’m not sure it’s going up much until the economy really gets going.   So, there’s a good chance we won’t be assigned at August expiry, at which point I may try to revert to cash anyway, especially if AA is above $10.34 (my break-even point.)

Tags: Options · Trades

1 response so far ↓

  1. 1 MRdivman // 2009.08.19 at 1:30 pm

    Greetings,
    I’ve been advocating the combination of dividend investing/covered call writing also, in my newsletter,
    “The Double Dividend Stock Alert”. Another strategy that’s been working very well is selling out-of- or close-to-the-money puts on solid dividend paying stocks. If you can match up your desired entry point with a strike price that has a worthwhile premium, you can make a nice return, which is often much higher yield than the dividend, particularly if your broker doesn’t require 100% cash reserve.

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