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Wednesday, August 2, 2017

Established Covered Calls in Alibaba Group Holding Ltd.

Today, the Covered Calls Advisor established a new position in Alibaba Group Holding Ltd. (ticker symbol BABA) by establishing two Covered Calls position with September 15, 2017 expiration and at the $140.00 strike price.  This is the second BABA Covered Calls position now in the Covered Calls Advisor Portfolio.  The first position was at the same strike price but was for the August 18th options expiration.  This new position is a relatively conservative one since it was established today when the price of Alibaba was $147.68 (5.2% downside protection to the strike price) and 36 calendar days remaining until the options expiration date. 

For Alibaba, the chart below (click on the chart to view a larger and more legible version) shows that the potential annualized return of +31.9% for the Covered Calls position is preferable to the +30.4% to establish a comparable 100% Cash-Secured Puts position. 

This potential annualized return-on-investment of +31.9% exceeds the Covered Calls Advisor's desired threshold of >20%. 

The implied volatility of the Call options was 40.2 when this position was established, the highest it has been for Albaba options in more than a year.  This high volatility is largely attributable to the uncertainty associated with the upcoming quarterly earnings report due on August 17th as well as a rapid $10 decline in the stock price this week.  

The downside 'breakeven price' at expiration is at $135.70 ($147.68 - $11.98), which is 8.1% below the current market price of $147.68.  

Using the Black-Scholes Options Pricing Model in the Schwab Hypothetical Options Pricing Calculator, the probability of making a profit (if held until the September 15th, 2017 options expiration) for this position is 69.5%. This compares with a probability of profit of 50.2% for a buy-and-hold of this Alibaba stock over the same time period. Using this probability of profit of 69.5% the expected value for the annualized return-on-investment (if held until expiration) is +22.2% (+31.9% maximum potential annualized return on investment * 69.5%), an attractive risk/reward profile for this conservative investment.  

Finally, the 'crossover price' at expiration is $159.66 ($147.68 + $11.98).  This is the price above which it would have been more profitable to simply buy-and-hold Alibaba stock until the September 15th options expiration date rather than establishing this Covered Calls position.

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