Monday, February 22, 2010

Establish Gap Inc. Covered Calls

A new covered calls position was established in the Covered Calls Advisor Portfolio(CCAP) with the purchase of Gap Inc.(GPS) covered calls as follows:

Established Gap Inc.(GPS) Covered Calls for Mar2010:
02/22/2010 Bought 300 GPS @ $19.76
02/22/2010 Sold 3 GPS Mar2010 $20.00 Calls @ $.60

The Gap, Inc., is a specialty retailer offering clothing, accessories, and personal care products for men, women, children, and babies primarily under the Gap, Old Navy, and Banana Republic brands. It operates over 3,000 stores located primarily in the United States, but also with international locations in Canada, the United Kingdom, France, Ireland, and Japan which account for about 10% of sales. Same-store sales have been trending downward each year since 2004. But the Gap brand and Old Navy have now had positive same-store comparables for the past two consecutive months, something which has not occurred since 2004. In addition, senior management has done a stellar job of gross margin and expense control under the excellent leadership of CEO Glenn Murphy -- and the improving trends in these two areas are likely to continue in 2010. The Buy Alerts spreadsheet below shows that Gap's financials are value-oriented at this time, and the total points rating of 23.06 is well above the Covered Calls Advisor's desired "Buy" threshold of 20.0. If a combination of continued strong expense management (very likely) along with higher same-store comps (reasonably likely) occurs in 2010, then a bullish stock response this year is also very likely.

Note: For expanded view, left click on the spreadsheet above.

It should be noted that GPS quarterly earnings will be released this Thursday. As a result of the uncertainty associated with any quarterly earnings report, the options premium is now higher than it would otherwise be if there was not an impending report. Because this advisor is confident that GPS is very likely to meet or exceed the analysts' expected results, it was decided to capture the relatively attractive options premium now available and to establish a covered calls position today, prior to the earnings release later this week.
Some possible overall performance results(including commissions) for the GPS transactions would be as follows:
Stock Purchase Cost: $5,936.95
= ($19.76*300+$8.95 commission)

Net Profit:
(a) Options Income: +$168.80
= (300*$.60 - $11.20 commissions)
(b) Dividend Income: +$0.00
(c) Capital Appreciation (If stock price unchanged at $19.76):
-$8.95 = ($19.76-$19.76)*300 - $8.95 commissions
(c) Capital Appreciation (If exercised at $20.00): +$63.05
= ($20.00-$19.76)*300 - $8.95 commissions

Total Net Profit(If stock price unchanged at $19.76): +$159.85
= (+$168.80 +$0.00 -$8.95)
Total Net Profit(If stock price exercised at $20.00): +$222.90
= (+$168.80 +$0.00 +$63.05)

Absolute Return if Unchanged at $19.76: +2.7%
= +$159.85/$5,936.95
Annualized Return If Unchanged (ARIU) +39.3%
= (+$159.85/$5,936.95)*(365/25 days)

Absolute Return if Exercised at $20.00: +3.7%
= +$220.90/$5,936.95
Annualized Return If Exercised (ARIE) +54.3%
= (+$220.90/$5,936.95)*(365/25 days)