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Monday, August 3, 2015

Covered Calls Position Established in International Paper

Today, a new covered calls position was established in International Paper (ticker symbol IP) with an Aug2015 expiration.  The International Paper stock was purchased at $47.30 and the Aug2015 Call options were simultaneously (i.e. a single buy-write transaction was made) sold at the $46.00 strike price for $1.59 each.

This covered calls investment is a strategic one that explicitly considers the upcoming quarterly dividend with an ex-dividend date (Aug 12th) prior to the August 21st options expiration date.  Details of this position is provided below.

1. International Paper (IP)
A $.40 quarterly dividend goes ex-dividend on August 12th.  Although unlikely, if the current time value (i.e. extrinsic value) of $.29 [$1.59 option premium - ($47.30 stock price - $46.00 strike price)] remaining in the short call options decay substantially below the $.40 dividend amount by August 11th (the day prior to the ex-div date), then there is a possibility that the call option owner will exercise early and will call the stock away to capture the dividend.

As shown below, two potential return-on-investment results for this position are:
If Early Assignment: +0.4% absolute return (equivalent to +18.6% annualized return for the next 8 days) if the stock is assigned early (the day prior to Aug 12th ex-div date); OR
If Dividend Capture:  +1.3 absolute return (equivalent to +24.1% annualized return over the next 19 days) if the stock is assigned at Aug2015 expiration on August 21st.

08/03/2015 Bought 200 IP shares @ $47.30
08/03/2015 Sold 2 IP Aug2015 $46.00 Call options @ $1.59

08/12/2015 Upcoming ex-dividend of $.40 per share

Two possible overall performance results (including commissions) for this International Paper (IP) covered calls position are as follows:
Stock Purchase Cost: $9,468.95
= ($47.30*200+$8.95 commission)

Net Profit:
(a) Options Income: +$307.55
= ($1.59*200 shares) - $10.45 commissions
(b) Dividend Income (If option exercised early on day prior to Aug 11th ex-div date): +$0.00; or
(b) Dividend Income (If stock assigned at Aug2015 expiration): +$80.00
= ($.40 dividend per share x 200 shares)
(c) Capital Appreciation (If stock assigned early on Aug 11th): -$268.95
+($46.00-$47.30)*200 - $8.95 commissions; or
(c) Capital Appreciation (If stock assigned at $46.00 at Aug2015 expiration): -$268.95
+($46.00-$47.30)*200 - $8.95 commissions

Total Net Profit (If option exercised on day prior to Aug 12th ex-div date): +$38.60
= (+$307.55 +$0.00 -$268.95); or
Total Net Profit (If stock assigned at $46.00 at Aug2015 expiration): +$118.60
= (+$307.55 +$80.00 -$268.95)

1. Absolute Return (If option exercised on day prior to ex-div date): +0.4%
= +$38.60/$9,468.95
Annualized Return (If option exercised early): +16.5%
= (+$38.60/$9,468.95)*(365/9 days); OR

2. Absolute Return (If stock assigned at $46.00 at Aug2015 expiration): +1.3%
= +$118.60/$9,468.95
Annualized Return (If stock assigned): +24.1%
= (+$118.60/$9,468.95)*(365/19 days)

Either outcome would provide a very good return.  These returns will be achieved as long as the stock is above the $46.00 strike price at assignment.