Search This Blog

Tuesday, December 8, 2015

Established Covered Calls Position in iShares MSCI Emerging Markets ETF

Today, a covered calls position was established in iShares MSCI Emerging Markets ETF (ticker symbol EEM) with a Jan2016 expiration.  This position includes consideration of an upcoming semi-annual distribution with an ex-date of Dec 21st.  Given the Covered Calls Advisor's current Slightly Bearish overall market outlook, a conservative in-the-money covered call position was established (with the strike price of $32.00 being below the stock purchase price of $32.59).

As detailed below, two potential return-on-investment results for this position are:
If Early Assignment: +1.3% absolute return (equivalent to +37.8% annualized return for the next 13 days) if the stock is assigned early (business day prior to Dec 21 ex-date); OR
If Distribution Capture: +2.9% absolute return (equivalent to +27.0% annualized return over the next 39 days) if EEM is assigned at Jan2016 expiration on January 15th.

1. iShares MSCI Emerging Markets ETF (EEM) -- New Covered Calls Position
The estimated $.50 distribution of Dec 21st is included in the potential results analysis below.  Although unlikely, if the current time value (i.e. extrinsic value) of $.50 [$1.09 option premium - ($32.59 purchase price - $32.00 strike price)] remaining in the short call option decays substantially by December 20th (the business day prior to the ex-date), then it is possible that the call options owner would exercise early and call the EEM shares away to capture the dividend. 

The transactions were:
12/08/2015 Bought 300 iShares MSCI Emerging Markets ETF shares @ $32.59
12/08/2015 Sold 3 EEM Jan2016 $32.00 Call options @ $1.09
Note: a simultaneous buy/write transaction was executed.
12/21/2015 Upcoming distribution estimated at $.50 per share

Two possible overall performance results (including commissions) for this EEM covered calls position are as follows:
Stock Purchase Cost: $9,784.95
= ($32.59*300+$7.95 commission)

Net Profit:
(a) Options Income: +$316.80
= ($1.09*300 shares) - $10.20 commissions
(b) Distribution Income (If option exercised early on business day prior to Dec 21st ex-date): +$0.00; or
(b) Distribution Income (If EEM assigned at Jan2016 expiration): +$150.00
= ($.50 distribution per share x 300 shares)
(c) Capital Appreciation (If EEM assigned early on Dec 15th): -$184.95
+($32.00-$32.59)*300 - $7.95 commissions; or
(c) Capital Appreciation (If EEM assigned at $32.00 at Jan2016 expiration): -$184.95
+($32.00-$32.59)*300 - $7.95 commissions

Total Net Profit (If option exercised on day prior to Dec 21 ex-distribution date): +$131.85
= (+$316.80 +$0.00 -$184.95); or
Total Net Profit (If EEM assigned at $32.00 at Jan2016 expiration): +$281.85
= (+$316.80 +$150.00 -$184.95)

1. Absolute Return [If option exercised on Dec 20th (business day prior to ex-distribution date)]: +1.3%
= +$131.85/$9,784.95
Annualized Return (If option exercised early): +37.8%
= (+$131.85/$9,784.95)*(365/13 days); OR

2. Absolute Return (If EEM assigned at $32.00 at Jan2016 expiration): +2.9%
= +$281.85/$9,784.95
Annualized Return: +27.0%
= (+$281.85/$9,784.95)*(365/39 days)

Either outcome would provide a very attractive return-on-investment result for this investment.  These returns will be achieved as long as the stock is above the $32.00 strike price at assignment.  If EEM declines below the strike price, the breakeven price of $31.50 ($32.59 -$1.09) provides 3.3% downside protection below today's purchase price.