Establish Covered Calls Position in Diamondback Energy

A new monthly Covered Calls position was established in Diamondback Energy (ticker symbol FANG).  This is the second Covered Calls position in Diamondback Energy, the first being for the February 21st, 2020 options expiration at the $70.00 strike price.  This second position was established today for the March 20th, 2020 expiration at the $75.00 strike price when the stock was at $77.96.   Given the current Slightly Bearish Overall Market Outlook, a slightly in-the-money Covered Calls position was established.  The Covered Calls Advisor wants to maintain a position in Diamondback, so since the February position is likely to be assigned at expiration this Friday, a new March Covered Calls position was established today.  As detailed below, this position considers the intervening ex-dividend on March 3rd which meets the Covered Calls Advisor's 'Dividend Capture Strategy' criteria as a worthwhile investment.    

Diamondback's 4th quarter earnings were reported after market close yesterday and exceeded analysts expectations on both the top and bottom lines.  Consequently, the stock price spiked higher this morning when this Covered Calls position was established.  Another positive surprise was the announcement of a doubling of the quarterly dividend to $.375 beginning on the upcoming ex-dividend date of March 3rd, 2020.  This is a 2.0% annual dividend yield at the current stock price (which is slightly above the dividend yield for the S&P 500).  Analysts remain strongly bullish on Diamondback Energy with thirty-two of thirty-three analysts rating Diamondback's stock as either a 'Buy' or 'Outperform'.  Only one rates it as a 'Neutral' and none rate it as 'Underperform' or 'Sell'.  


As shown below, two potential return-on-investment result are: (1) +2.7% absolute return in 13 days (equivalent to a +74.5% annualized return-on-investment if FANG stock is assigned at $75.00 on the day prior to the March 3rd ex-dividend date; OR (2) +3.2% absolute return in 31 days (equivalent to a +37.3% annualized return-on-investment if assigned at the March 20th expiration.


Diamondback Energy (FANG) -- New Covered Calls Position

The transactions were as follows:
02/19/2020 Bought 300 shares of Diamondback stock @ $77.96 per share 
02/19/2020 Sold 3 Diamondback March 20th, 2020 $75.00 Call options @ $4.90 per share
Note: this was a simultaneous Buy/Write transaction.  The Call options had an Open Interest of 25,809 contracts and the Implied Volatility of the Call options was 38.6.
3/3/2020 Upcoming ex-dividend of $.375 per share

Two possible overall performance results (including commissions) would be as follows:
Covered Calls Cost Basis: $21,920.01
= ($77.96 - $4.90) * 300 shares + $2.01 commission

Net Profit Components:
(a) Options Income: +$1,470.00
= ($4.90 * 300 shares)
(b) Dividend Income (If Diamondback stock assigned on day prior to March 3rd ex-dividend date): +$0.00; OR
(b) Dividend Income (If Diamondback stock assigned on March 20 options expiration date): $112.50
= $.375 dividend per share x 300 shares
(c) Capital Appreciation (If FANG stock is assigned at $75.00 on the day prior to the March 3rd ex-dividend date): -$888.00
= ($75.00 -$77.96) * 300 shares; OR
(c) Capital Appreciation (If FANG stock is above $75.00 strike price at the March 20th expiration): -$888.00
= ($75.00 -$77.96) * 300 shares

1.  Total Net Profit (If FANG stock assigned on day prior to March 3rd ex-dividend date): +$582.00
= (+$1,470.00 options income +$0.00 dividend income -$888.00 capital appreciation): OR
2.  Total Net Profit (If stock assigned on March 20 options expiration date): +$694.50
= (+$1,470.00 options income +$112.50 dividend income -$888.00 capital appreciation)

1.  Absolute Return (If FANG stock assigned on day prior to March 3rd ex-dividend date): +2.7%
= +$582.00/$21,920.01
Equivalent Annualized Return: +74.5%
= (+$582.00/$21,920.01)*(365/13 days); OR
2.  Absolute Return (If stock assigned on March 20 options expiration date): +3.2%
= +$694.50/$21,920.01
Equivalent Annualized Return: +37.3%
= (+$694.50/$21,920.01)*(365/31 days)


Either outcome would provide a very good return-on-investment result.  These returns will be achieved as long as the stock is above the $75.00 strike price at assignment.  If the stock declines below the strike price, the breakeven price of $72.685 ($77.96 -$4.90 -$.375) provides 6.8% downside protection below today's purchase price.

Using the Black-Scholes Options Pricing Model, the probability of making a profit (if held until the March 20, 2020 options expiration) for this Diamondback Energy Covered Calls position is 65.4%, so the expected value annualized ROI of this investment (if held until expiration) is +24.4% (+37.3% * 65.4%), a very good result for this in-the-money Covered Calls position, especially given that there is no earnings report volatility prior to the options expiration date.

The 'crossover price' at expiration is $79.90 = $77.96 + [$4.90 - ($77.96 - $75.00)].
This is the price at expiration above which it would have been more profitable to simply buy-and-hold Diamondback stock until the March 20th, 2020 options expiration date rather than establishing this Covered Calls position.

The Covered Calls Advisor has established a set of ten criteria to evaluate potential Covered Calls using a Dividend Capture Strategy.  The minimum threshold desired to establish a position is that at least eight of these ten criteria must be achieved.  As shown in the table below, all ten criteria are achieved for this FANG Covered Calls position.  It should also be noted that the threshold criteria for items 9 and 10 in the chart below have been reduced from 30% and 20% to 25% and 17% respectively.  This adjustment is made because of the current below average VIX (S&P 500 Volatility Index) of 14.6 and the accompanying lower return-on-investment potential.  When market volatility increases, the threshold target percentages will return again to the 30% and 20% levels.