Rolling options can turn a profitable option trade into a loss


One of the hardest things to do as an investor is to control your emotions when making investment decisions. It is even more difficult for option traders because all options have an expiry date. Plus option prices are very volatile which can be difficult to ignore.

My dollar cost average using an option strategy for buying 200 shares of Royal Caribbean has been an emotional roller coaster ride. I took a position on Oct 11 with the intention of either making 11.2% return in 38 days or owning 200 shares at an average price of $68.84 per share. The chart below illustrates the price movement over the past 16 days.


I get nervous when a stock price falls 3.5 % two days before earnings are released. I seriously thought about buying back the call & put options and selling my shares for a loss. However, the whole point of this strategy was to own 200 shares of Royal Caribbean. Nothing really has changed, under normal conditions I would have bought 100 shares at $72.22 on Oct 11 and bought another 100 shares at $68.00 for an average price of $70.11 per share.

My option strategy, up until Oct 27 has reduced my paper loss to $68.84 – $68.00 = $0.84 divided by $68.84 or 1.2% compared to $70.11 – $68.00 = $2.11 divide by $70.11 or 3%. The next day, RCL released their earnings that surprised on the upside. See the chart below: 


Now I am faced with more challenging set of opportunities.

  1. Do I buy back the Nov 18 call & put options which brings my cost base down to $69.92 and I hopefully sell my 100 shares on Monday for $74.40 ( 6.4% return)
  2. Do nothing for the next 22 days and hope that the shares don’t fall back below $72.50 and make 11.2%
  3. Do I roll my options forward by buying back the Nov 18 options and sell the Dec 16 $72.50 call for $4.10 and Dec 16 $72.50 put for $2.20?
  4. Do I get greedy? Buy back the Nov 18 options and sell the Dec 16 $75 calls for $2.64 and the puts for $3.30?

Analysing the risk / reward of rolling my options to Dec.

Scenario (1): What happens if the shares of Royal Caribbean are trading below $72.50 on Dec 16?

Under choice # 3, call option expires and I buy 100 shares at $72.50 bring down my purchase price per share to $66.20 for the 100 addition shares plus 69.92

Under choice # 4, I still buy 100 shares at $72.50 bring down the purchase price per share to $66.56

Scenario (2): What happens if the shares of Royal Caribbean are trading above $72.50 but below $75.00 on Dec 16?

Under choice # 3, I sell my 200 shares for $$14,500 – $6,620.00 – $6,992.00 = profit of $888.00 or 6.72%

Under choice # 4, I will own 100 shares at $69.06 plus my 100 shares at $69.92

Scenario (3): What happens if the shares of Royal Caribbean are trading above $75.00 on Dec 16?

Under choice # 3, nothing changes, I still make $888.00 or 6.72%

Under choice # 4,  buying back the Nov 18 options, I reduced my cost base on the 100 shares to $69.92 – the Dec 16 put option of $3.30 – call option for $2.64 = $63.98 per share. I will be force to sell at $75.00 for a profit of $11.02 or 17.2% 

Two factors that I am weighting are the Fed is considering raising interest rates in December combine with tax loss selling could spark a market correction. Now, Choice # 3 is out of the question, less change of being profitable than choice # 2, 6.72% in 48 days compared to 11.2% in 20 days.

Now, I still have until Nov 18 to decide if I want to change the perimeters of my original trade. However, I do run the risk that the purchaser of the Nov 72.50 call option will force me to sell my 100 shares before Nov 18th if the stock price continues to the upside.

What choice would you make if you were in my shoes?

Remember this old saying “Bulls & Bears make money and Pigs get slaughtered.”

Looking for option trades on the Time Warner takeover by AT & T


AT & T has reached an agreement in principle to buy Time Warner for about $85.4 billion, Time Warner shareholders will get a combination of cash and AT & T stock for a total purchase price of $107.50 per share.  AT&T is confident that they will be able to win U.S. antitrust approval for the deal, but regulators would likely put some conditions on getting approved. The whole process could take around a year to complete.  

Why is the stock price of Time Warner trading so far below $107.50?

Although the deal have been announced, Wall Street believes that there is less than a 50% chance that this deal will actually get done.  A year is a long time to wait for Wall Street traders, they don’t like the fact that AT & T will borrow 40 billion and issue more shares to finance this deal.  Plus, Donald Trump has already promised to stop this takeover from going through if he was elected.

Time Warner share price closed today at $ 86.74 down $2.74 which is a far cry from the takeover price. The average daily trading volume on this stock is around 4 million but 46 million traded today. This represents a lot of early profit taking by Wall Street. The risk reward of buying some shares of Time Warner is very tempting. If the deal goes through, the upside is just over $20.00 a share.  I think that the downside is somewhere between $7.00 to $10.00 per share.

Three possible trades that I am considering:

  1. Buy 300 shares of Time Warner at $86.75 and sell 3 April $90 call options for $3.00 each. This reduces the adjusted cost base to $83.75 and I am hoping that these call options will expire worthless. This would allow me to repeat this type of trade again in April. (Total investment of $25,125 U.S.)
  2. Buy 100 shares of Time Warner at $86.75, sell 1 April $90.00 call option for $3.00 and 1 April $85.00 put for $3.80 reducing the purchase price to $79.95 a share. ($86.73-$3.00-$3.80 = $79.95) (Total investment $7,995.00) Downside I will own  200 shares at an average cost of $82.48, upside if both options expire worthless is gain of $6.80 or 7.85%
  3. Buy 10 Jan $97.50 call options for $3.50 that expire in 2018. If the deal goes through, these options could be sold for $10 each. (Total investment of $3,500.00) Potential gain of $10,000 – $3,500 = $6,500 or 186% however the potential loss is 100% or $3,500 if deal is cancelled.

Before I decide to initiate a trade, I like to look for any unusual option trading volumes for both April 2017 and Jan. 2018.   I found that 4,000 April call options and 2,000 April put options traded today.  The Jan 2018  calls to puts was a lot closer, 7,000 to 5,700 traded.

With the U.S. election just two weeks away, which trade if any who you recommend or would you wait?





Dollar-cost averaging using an option strategy


Most investors are familiar with dollar–cost averaging as a wealth building strategy. It involves investing a fixed amount of money at regular intervals over a long period of time. This type of systematic investment program is commonly used in company sponsored pension plans.

I use a similar approach by selling call & put options to build a stock portfolio. At first glance it sounds really complicated, but the math is simple as long as you can subtract and divide.

The two types of options: calls and puts (Investopedia)

A call gives the holder the right to buy an asset at a certain price within a specific period of time. Calls are similar to having a long position on a stock. Buyers of calls hope that the stock will increase substantially before the option expires.

A put gives the holder the right to sell an asset at a certain price within a specific period of time. Puts are very similar to having a short position on a stock. Buyers of puts hope that the price of the stock will fall before the option expires.

My strategy involves selling options and collecting a premium which will hopefully reduce the cost of buying a stock. For example: I recently wanted to add 200 shares of Royal Caribbean Cruises (RCL) to my stock portfolio.

Here is the math: I bought 100 shares at $72.22 on Oct 11th

Sold 1 call option Nov $72.50 for $3.40

Sold 1 put option Nov $72.50 for $3.65

Now both these options expire on Nov 18th, so the buyer of the call option can force me to sell my 100 shares for $72.50 and the buyer of the put option can force me to buy 100 more shares at $72.50 depending upon the share price on Nov 18th.

Scenario (1): What happens if the shares of Royal Caribbean are trading below $72.50 on Nov 18th?

The call option expires worthless and I will buy 100 shares that will cost me $72.50 – $3.40 (the call premium) – $3.65 (the put premium) for a total share cost of $64.45. If you add the cost of the 100 shares that I bought for $72.22 to the 100 shares for $64.65 and divide be 2, my dollar cost average per share is $68.84

Scenario (2): What happens if the shares of Royal Caribbean are trading above $72.50 on Nov 18th?

The put option expires worthless and I have to sell my 100 shares for $72.50 but the cost of my 100 shares that I bought for 72.22 have been reduce to $65.17 ( $72.22 – $3.40 call premium – $3.65 put premium), my net profit on the trade would $7.33 divide by $65.17 or 11.2 % in just  38 days. (Excluding trading commissions)

In order to use this strategy, you need to have a margin account with a discount broker and be approved for cash secured put option trading. The added bonus of this strategy is you can use it to buy most index funds and some EFTs, you don’t have to buy individual stocks. However, the option premiums on index funds & ETFs will be much lower because they are less volatile than individual stocks.

I like this strategy because it removes some of the emotion out of investing. In the past, I would take half a position in a stock but I found it hard to commit to buying the other half when the share price fell. Plus I would kick myself for not taking a full position when the share priced increased in value. I found averaging down or up was very difficult. In reality the decision of buying or selling is sold to the purchasers of the options for a fee. An additional benefit, option premiums are taxed as capital gains, as long as you are not making a living as a day trader.

Stay tune; I will post the results of this trade next month plus an additional trade based on which scenario unfolds.

Disclaimer: This post is for educational proposes and not an investment recommendation.

Should you bet your portfolio on who will be the next president?

Republican presidential nominee Donald Trump shakes hands with Democratic presidential nominee Hillary Clinton following the second presidential debate at Washington University in St. Louis, Sunday, Oct. 9, 2016. (AP Photo/Patrick Semansky)

Who’s going to be the next president? The betting odds on the election at gaming site Bodog as of Oct. 10 are Clinton -425 and Trump +325, meaning a winning $425 bet on Clinton will pay out $100, while a winning $100 bet on Trump would net you $325.

For investors, the important questions are how the election outcome could affect their investment portfolios and whether they should do anything about it. It’s a legitimate concern, considering the spikes in volatility this year caused by fears of global economic slowdown, dissolution of the European Union and policy reversal by the Federal Reserve.

A November election surprise could trigger renewed volatility in the financial markets.

Conventional wisdom has it that the markets favor Republicans in the White House because they typically fight for lower taxes and less regulation. Donald Trump, however, is not a typical Republican candidate.

Trump has promised tax cuts, but he has also railed against the “rigged” economy and talked of building walls to keep out neighbors. The market does not like uncertainty, and Trump may be as unpredictable a candidate as either party has ever fielded for the White House.

It stands to reason that a Trump victory could hurt more than just the Mexican peso and the stock market. His bravado toward global trading partners and his talk about renegotiating trade deals and global security pacts could also put a chill in financial markets generally.

On the other hand, a President Clinton might also rock some boats. If Clinton wins, energy stocks could arguably take a significant hit. So might health-care stocks. Many believe her support for a financial transactions tax on high-frequency traders could seriously damage sentiment in the markets.

Fear on Wall Street could spark a sell off no matter who wins. It could provide investors with a great buying opportunity. Having some cash in your portfolio may be a prudent option to take advantage of market volatility.