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Tuesday, May 17, 2011

Establish International Paper Co.(IP) Covered Calls

The Covered Calls Advisor had a May2011 covered calls position in IP that was exercised early at the end of last week. (Link to IP early exercise blog post)

Today, the Covered Calls Advisor decided to establish another covered calls position in International Paper with the proceeds received from the early assignment of the previous IP postion. The recent quarterly earnings report for IP was outstanding, and the future revenue and earnings expectations continue to make IP a very strong value-oriented investment at its current price. The transactions today were as follows:
05/17/2011 Bought 500 IP @ $31.26
05/17/2011 Sold 5 IP Jun2011 $32.00 Calls @ $.82

International Paper Company operates as a paper and packaging company with operations in North America, Europe, Latin America, the Russian Federation, Asia, and north Africa. Its Printing Papers segment produces uncoated printing and writing papers, including uncoated papers, market pulp, and uncoated bristols. The company's Industrial Packaging segment manufactures containerboards. Its products include linerboard, medium, whitetop, recycled linerboard, recycled medium, and saturated kraft. Its Consumer Packaging segment produces coated paperboard for various packaging and commercial printing end uses. The company's Distribution segment provides services and products to various customer markets, supplying commercial printers with printing papers and graphic pre-press, printing presses, and post-press equipment; the building services and away-from-home markets with facility supplies; and manufacturers with packaging supplies and equipment, as well as offers warehousing and delivery services. Its Forest Products segment owns and manages forest lands primarily in the United States.

Two possible overall performance results(including commissions) for the International Paper Co.(IP) transactions would be as follows:
Stock Purchase Cost: $15,638.95
= ($31.26*500+$8.95 commission)

Net Profit:
(a) Options Income: +$397.30
= (500*$.82 - $12.70 commissions)
(b) Dividend Income: $0.00
(c) Capital Appreciation (If stock unchanged at $31.26 at expiration): -$8.95
= ($31.26-$31.26)*500 - $8.95 commissions
(c) Capital Appreciation (If stock assigned at $32.00): +$361.05
= ($32.00-$31.26)*500 - $8.95 commissions

Total Net Profit (If stock price unchanged at $31.26 at expiration): +$388.35
= (+$397.30 +$0.00 -$8.95)
Total Net Profit (If stock assigned at $32.00): +$758.35
= (+$397.30 +$0.00 +$361.05)

1. Absolute Return (If stock unchanged at $31.26 at expiration): +2.5%
= +$388.35/$15,638.95
Annualized Return (If stock unchanged at expiration): +28.3%
= (+$388.35/$15,638.95)*(365/32 days)

2. Absolute Return (If stock assigned at $32.00 at expiration): +4.8%
= +$758.35/$15,638.95
Annualized Return (If stock assigned at $32.00): +55.3%
= (+$758.35/$15,638.95)*(365/32 days)

The downside breakeven price at expiration is at $30.44 ($31.26 - $.82). Using the Black-Scholes Options Pricing Model in the Schwab Hypothetical Options Pricing calculator, the resulting probability of making a profit (if held until Jun2011 options expiration) for this International Paper Co.(IP) covered calls position is 61.6%. This compares with a probability of profit of 50.5% for a buy-and-hold of International Paper Co.(IP) over the same time period.

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