Today, a new covered calls position was established in BP Plc ADR (ticker symbol BP). Two hundred shares of BP were purchased at $37.22 and two in-the-money Apr2015 Call options were sold at the $36.00 strike price for $1.92 each.
As shown below, this investment will provide a +1.6% absolute
return in 37 days (which is equivalent to a +16.0% annualized return) if
BP stock closes above the $36.00 strike price on the April 17th options expiration
This potential return-on-investment result is attractive to us option sellers for a relatively conservative investment -- there is 3.3% downside protection (from the current $37.22 stock price to the $36.00 strike price). The implied volatility in the options was 29.5 when this position was established and there is no quarterly earnings report prior to April 17th.
The details of the associated transactions and a potential return-on-investment result are as follows:
1. BP Plc ADR (BP)
The transactions were as follows:
03/13/2015 Bought 200 BP shares @ $37.22
03/13/2015 Sold 2 BP Apr2015 $36.00 Call Options @ $1.92
Note: the price of BP was $37.22 today when these options were sold.
A possible overall performance result (including commissions) for these BP Plc ADR covered calls is as follows:
Stock Purchase Cost: $7,452.95
= ($37.22*200+$8.95 commission)
(a) Options Income: +$373.55
= 200*$1.92 - $10.45 commissions
(b) Dividend Income: +$0.00
(c) Capital Appreciation (If BP assigned at $36.00) = -$252.95
= ($36.00-$37.22)*200 - $8.95 commissions
Total Net Profit (If BP assigned at $36.00): +$120.60
= (+$373.55 +$0.00 -$252.95)
Absolute Return if Assigned (at $36.00 strike price): +1.6%
Annualized Return If Assigned (ARIA): +16.0%
= (+$120.60/$7,452.95)*(365/37 days)
The downside 'breakeven price' at expiration is at $35.30 ($37.22 - $1.92), which is 5.2% below the current market price of $37.22.
Using the Black-Scholes Options Pricing Model in the Schwab
Hypothetical Options Pricing calculator, the resulting probability of
making a profit (if held until Apr2015 options expiration) for this BP covered calls position is 63.0%. This compares with a probability of
profit of 50.2% for a buy-and-hold of BP over the same time period.
Using this probability of profit of 63.0%, the Expected Value annualized
ROI of this investment (if held until expiration) is +10.0% (+16.0% * 63.0%).
The 'crossover price' at expiration is $39.14 ($37.22 + $1.92). This is the price above which it would have been more profitable to simply buy-and-hold BP stock until April 17th (the Apr2015 options expiration date) rather than establish this covered calls position.