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Thursday, December 28, 2017

Covered Calls Established in Gap Inc.

Today, a Covered Calls positions was established in Gap Inc. (ticker GPS) for the January 19th, 2018 expiration and at the $33.00 strike price.   Given the Covered Calls Advisor's current Overall Market Meter sentiment of Neutral, a relatively conservative in-the-money position was established.

The Implied Volatility of these options was 35.0 when this position was established and the open interest was 756 contracts.  There is an upcoming ex-dividend of $.23 next Tuesday (January 2nd) which is included in the analysis below.


As detailed below, a potential outcome for this investment is +2.2% absolute return-on-investment for the next 23 days (equivalent to +34.1% on an annualized return basis) if Gap stock closes above the $33.00 strike price on the January 19th options expiration date.


Gap Inc. (GPS) -- New Covered Calls Position
The transactions were:
12/28/2017 Bought 500 shares of Gap stock @ $34.23 per share 
12/28/2017 Sold 5 Gap Jan 19th, 2018 $33.00 Call options @ $1.71 per share
Note: this was a simultaneous Buy/Write transaction
01/02/2018 Upcoming ex-dividend of $.23 per share

A possible overall performance result (including commissions) would be as follows:
Covered Calls Cost Basis: $16,268.30
= ($34.23 - $1.71)* 500 shares + $8.30 commission

Net Profit Components:
(a) Options Income: +$855.00
= ($1.71* 500 shares)
(b) Dividend Income: +$115.00
= $.23 per share * 500 shares 
(c) Capital Appreciation (If GPS is above $33.00 strike price at Jan 19th expiration): -$619.95
= ($33.00 -$34.23)* 500 shares - $4.95 commission

Potential Total Net Profit (If assigned at expiration): +$350.05
= (+$855.00 options income +$115.00 dividend income -$619.95 capital appreciation)

Absolute Return: +2.2%
= +$350.05/$16,268.30
Equivalent Annualized Return: +34.1%
= (+$350.05/$16,268.30)*(365/23 days)

The downside 'breakeven price' at expiration is at $32.29 ($34.23 - $1.71 - $.23), which is 5.7% below the current market price of $34.23.  This is substantial protection given the relatively high +34.1% potential annualized ROI for this investment.

Using the Black-Scholes Options Pricing Model, the probability of making a profit (if held until the January 19th, 2018 options expiration) for this Gap Covered Calls position is 67.2%, so the expected value annualized ROI of this investment (if held until expiration) is +22.9% (+34.1% * 67.2%), a nice expected value result for this moderately in-the-money Covered Calls position.  

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