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Thursday, July 5, 2018

Established New Position in Deere & Co.

Today, a good-til-cancelled order was placed to sell two July 20th, 2018 Deere & Co. (ticker DE) Put options at the $138.00 strike price for $2.68 per share.  At 10:45am, the order was executed when the stock was at $139.28. 

As detailed below, there is potential for a +1.9% absolute return in 16 days (equivalent to a +43.8% annualized return-on-investment).

Deere & Co. (DE) -- New 100% Cash-Secured Puts Position
This position was established when the price of Deere & Co. stock was $139.28 (0.9% downside protection to the strike price) and 16 days remaining until the July 20th options expiration date.

With the recent increase in international trade tariff threats, agricultural stocks like John Deere have seen a swift decline in price accompanied by a substantial rise in the implied volatility of options, so the $2.68 price per share received when the Puts were sold is an attractive premium to receive for these out-of-the-money Put options.

Selling 100% Cash-Secured Puts is synthetically equivalent to Covered Calls.  In this case, Puts were chosen because of their better options liquidity (and thus tighter bid/ask spread).  The open interest at the $138.00 strike price for the Calls was 946 contracts but only 109 for their counterpart Call options.     

The transaction was as follows:
07/05/2018  Sold 2 DE July 20, 2018 $138.00 100% cash-secured Put options @ $2.68

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 two Put options sold.

A possible overall performance result (including commissions) would be as follows:
100% Cash-Secured Cost Basis: $27,600.00
= $138.00*200 shares

Net Profit:
(a) Options Income: +$529.71
= ($2.68*200 shares) - $6.29 commissions
(b) Dividend Income: +$0.00
(c) Capital Appreciation (If Deere stock is above $138.00 strike price at July 20,2018 expiration): +$0.00
= ($138.00-$138.00)*200 shares

Total Net Profit (If Deere stock price is above $138.00 strike price at July 20th options expiration): +$529.71
= (+$529.71 options income +$0.00 dividend income +$0.00 capital appreciation)

Absolute Return (If Deere stock is above $138.00 strike price at July 20th, 2018 options expiration): +1.9%
= +$529.71/$27,600.00
Annualized Return: +43.8%
= (+$529.71/$27,600.00)*(365/16 days)

The downside 'breakeven price' at expiration is at $135.32 ($138.00 - $2.68), which is 2.8% below the current market price of $139.28.

Using the Black-Scholes Options Pricing Model in the Schwab Hypothetical Options Pricing Calculator, the probability of making a profit (if held until the July 20th options expiration) for this John Deere & Co. short Puts position is 57.4%. This compares with a probability of profit of 50.4% for a buy-and-hold of Deere shares over the same time period. Using this probability of profit of 57.4%, the expected value annualized return-on-investment (if held until expiration) is +25.1% (+43.8% * 57.4%), an attractive risk/reward profile for this relatively conservative investment.  

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