Established Covered Calls in KB Home

Today a new Covered Calls position was established in KB Home (ticker KBH) with an October 16th, 2020 options expiration date.  A buy/write transaction was made with 400 shares purchased at $35.98 and four Calls sold at the $34.00 strike price for $3.02 per share.

KB Home is a home builder with high exposure to entry-level built-to-order homes, a good niche in the current market environment.  In this regard, there are three primary circumstances that provide the most conducive environment for homebuilders' success: demographics, low interest rates, and current Monthly Supply of Houses in the U.S.(Source: Federal Reserve Bank of St. Louis). All three of these factors are currently very positive for homebuilders. In terms of demographics, ages 26-32 are the prime ages for first-time buyers and years 2020 to 2024 will see the largest number of young adults in this age category in U.S. history. In terms of interest rates, 10-year Treasury rates below 2.0% provide attractive, affordable financing for new buyers. The current rate is only .66% and mortgage credit is readily available. Finally, the most recent monthly reading of current supply of houses is only 3.5 months which is an all-time (since 1963 when data was first measured) low.  Historically, supply conditions remain attractive to builders until this inventory factor exceeds 7.0 months.  Also in this regard, the NAHB Housing Market Index surveys homebuilders monthly on their current (and their estimates about the next 6 months) sentiment (from 0 to 100).  This month's index is at an all-time high (since 1985) of 83 (Note: The lowest rating of 8 was in January 2009).  So we are definitely now in a strong "sellers' market".   The Covered Calls Advisor will continue to track these factors and will likely remain invested in monthly Covered Calls in companies in this industry as long as all three of these metrics remain positive.

Despite the pandemic, this year's earnings are likely to be very close to last year's, but 2021 earnings are likely to be substantially above the good earnings that were achieved last year (2019).  This is a metric the Covered Calls Advisor is currently looking for in companies to consider investing in.  Another positive feature is the location of its geographic markets -- almost half are in California and the remainder are in other states throughout the Sunbelt.  KB Home was originally identified by the Covered Calls Advisor when it recently appeared in the top 2% of companies identified by my acquirers multiple stock screener, a good indication of its current valuation.  Its financials are also attractive based on its current score of 8 on the Piotroski F-score, thus ranking it in the top 5% of all U.S. public companies on that metric.  

The 54.4 Implied Volatility for these KB Home Call options was very attractive to the Covered Calls Advisor since it is almost twice the current S&P 500 Volatility Index (VIX) of 28.5.  KB Home exceeded analysts estimates for both revenue and earnings when it reported its 2nd quarter results after the market close this past Tuesday.  The Covered Calls Advisor considers the decline in the stock from $40.50 when earnings were released to $35.98 today to be unwarranted given its earnings results.  In addition, nine of ten analysts have raised their price target estimates in the past 3 days and the average target price  now $43.64 (+21.3% above today's purchase price).  

As detailed below, the potential return-on-investment result is +3.2% absolute return in 22 days (equivalent to a +52.3% annualized return-on-investment).

KB Home (KBH) -- New Covered Calls Position
The Buy/Write transaction today was as follows:
09/25/2020 Bought 400 shares of KB Home stock @ $35.98 per share 
09/25/2020 Sold 4 KB Home October 16th, 2020 $34.00 Call options @ $3.02 per share
Note: the Delta was 67.9 when this transaction was executed.

A possible overall performance results (including commissions) if the stock price is above the $34.00 strike price at expiration would be as follows:
Covered Call Cost Basis: $13,186.68
= ($35.98 - $3.02) * 400 shares + $2.68 commission

Net Profit Components:
(a) Options Income: +$1,208.00
= ($3.02 * 400 shares)
(b) Dividend Income: +$0.00 
(c) Capital Appreciation (If KB Home stock is above $34.00 strike price at the Oct 16th expiration): -$792.00
= ($34.00 - $35.98) * 400 shares

Total Net Profit: +$416.00
= (+$1,208.00 options income +$0.00 dividend income -$792.00 capital appreciation)

Absolute Return: +3.2%
= +$416.00/$13,186.68
Equivalent Annualized Return: +52.3%
= (+$416.00/$13,186.68)*(365/22 days)

The downside 'breakeven price' at expiration is at $32.96 ($35.98 - $3.02), which is 8.4% below the current market price of $35.98.