Search This Blog

Tuesday, April 11, 2017

Established New Position in Carmax Inc.

Today, a new position was established in Carmax Inc.(ticker KMX) by selling five April 2017 100% cash-secured Put options at the $55.00 strike price.  The short Puts were chosen instead of the comparable covered calls since the potential return-on-investment result was slightly higher for the Puts in this instance.

As detailed below, there is potential for a +0.8% absolute return in 11 days (equivalent to a +26.2% annualized return-on-investment).

Carmax Inc. (KMX) -- New 100% Cash-Secured Puts Position
This position was established when the price of Carmax Inc. was $56.80 (3.2% downside protection to the strike price) and 11 days remaining until the options expiration date.

The implied volatility of the Put options was 29.0 when this position was established; so the $.45 price received per share received when the Puts were sold is a nice premium to receive for these 3.2% out-of-the-money Put options.    

The transaction was as follows:
04/11/2017  Sold 5 KMX Apr2017 $55.00 100% cash-secured Put options @ $.45
Note: the price of KMX was $56.80 today when this transaction was executed.

The Covered Calls Advisor does not use margin, so the detailed information on this position and a potential result shown below reflect the fact that this position was established using 100% cash securitization for the five Put options sold.

A possible overall performance result (including commissions) would be as follows:
100% Cash-Secured Cost Basis: $27,500.00
= $55.00*500
Note: the price of KMX was $56.80 when these options were sold

Net Profit:
(a) Options Income: +$216.80
= ($.45*500 shares) - $8.20 commissions
(b) Dividend Income: +$0.00
(c) Capital Appreciation (If KMX is above $55.00 strike price at Apr2017 expiration): +$0.00
= ($55.00-$55.00)*500 shares

Total Net Profit (If Carmax Inc. stock price is above $55.00 strike price at Apr2017 options expiration): +$216.80
= (+$216.80 options income +$0.00 dividend income +$0.00 capital appreciation)

Absolute Return (If KMX is above $55.00 strike price at Apr2017 options expiration): +0.8%
= +$216.80/$27,500.00
Annualized Return: +26.2%
= (+$216.80/$27,500.00)*(365/11 days)

The downside 'breakeven price' at expiration is at $54.55 ($55.00 - $.45), which is 4.0% below the current market price of $56.80.

Using the Black-Scholes Options Pricing Model in the Schwab Hypothetical Options Pricing Calculator, the probability of making a profit (if held until the Apr 21st, 2017 options expiration) for this Carmax Inc. short Puts position is 73%. This compares with a probability of profit of 50.2% for a buy-and-hold of KMX shares over the same time period. Using this probability of profit of 73%, the expected value annualized return-on-investment (if held until expiration) is +19.1% (+26.2% * 73%), an attractive risk/reward profile for this relatively conservative investment.  

The 'crossover price' at expiration is $57.25 ($56.80 + $.45).  This is the price above which it would have been more profitable to simply buy-and-hold Carmax stock until the April 21, 2017 options expiration date rather than selling these Put options.