A new covered calls position was established today in the Covered Calls Advisor Portfolio(CCAP) with the purchase of McDermott International Inc. (symbol MDR) covered calls as follows:
08/01/2012 Bought 600 MDR @ $11.56
08/01/2012 Sold 6 MDR Aug2012 $12.00 Calls @ $.55
Two possible overall performance results (including commissions) for this McDermott position is as follows:
Stock Purchase Cost: $9,256.95
= ($11.56*600+$8.95 commission)
(a) Options Income: +$316.55
= 600*$.55 - $13.45 commissions
(b) Dividend Income: +$0.00
(c) Capital Appreciation (If MDR price unchanged at $11.56): -$8.95
= ($11.56-$11.56)*600 - $8.95 commissions
(c) Capital Appreciation (If MDR assigned at $12.00): +$255.05
= ($12.00-$11.56)*600 - $8.95 commissions
Total Net Profit(If MDR price unchanged at $11.56): +$307.60
= (+$316.55 +$0.00 -$8.95)
Total Net Profit(If MDR assigned at $12.00): +$571.60
= (+$316.55 +$0.00 +$255.05)
Absolute Return if Unchanged at $11.56: +3.3%
Annualized Return If Unchanged (ARIU): +63.8%
= (+$307.60/$9,256.95)*(365/19 days)
Absolute Return if Assigned at $12.00: +5.0%
Annualized Return If Assigned (ARIA): +118.6%
= (+$571.60/$9,256.95)*(365/19 days)
The potential returns for this position are abnormally high. This is the case because the current Implied Volatility of 72 is very high for this particular option. This is primarily because of the uncertainty caused by the quarterly earnings report for MDR (next Monday) which will occur prior to the Aug2012 expiration date of Aug 17th.
The downside 'breakeven price' at expiration is at $11.01 ($11.56 - $.55).
Using the Black-Scholes Options Pricing Model in the Schwab Hypothetical Options Pricing calculator, the resulting probability of making a profit (if held 19 days until Aug2012 options expiration) for this McDermott Intl. covered calls position is 65.2%. This compares with a probability of profit of 53.1% for a buy-and-hold of McDermott over the same time period.
The 'crossover price' at expiration is $12.55 ($12.00 + $.55).
This is the price above which it would have been more profitable to simply buy-and-hold MDR stock until August 18, 2012 (the Aug2012 options expiration date) rather than establishing the covered calls position. The probability of exceeding this crossover price at expiration is 32.6%.