May Contract Deltas: CSX, DOW, F, GLW

Looking at the four May covered call positions that I currently have in the Rescue My IRA account, all four of them seem highly likely to be called away next Friday when the May options expire.  They are far enough in the money, in fact, that they would likely withstand some turbulence. 

Here are the four positions: 

• CSX, May $22.50 contract, Friday’s close at $25.43, delta 1.00
• DOW, May $33 contract, Friday’s close at $34.46, delta 1.00
• F, May $13 contract, Friday’s close at $14.11, delta 1.00
• GLW, May $13 contract, Friday’s close at $15.10, delta 1.00

As I’ve mentioned in past posts, I like to use the delta as a probability metric as expiration day approaches.  In this case, all four of the stocks are significantly up from my strike prices, so I expect most of these shares to be assigned next Friday.

If that happens, I’ll be selling off two of my longest held positions in CSX and GLW – I’ve had each of these for more than a year and a half.  They’ve been solid performers.  Even though I will take a small loss on the share price for GLW, both positions have met my goal of a 12% annualized return.  My absolute return for CSX is 20%, and for GLW, it is 17%.

Even with the small loss on GLW, I stand to recognize $249 in share gains if the stocks are called away, and I will have somewhere around $35K in proceeds to reinvest.  That’s going to be a little bit of a challenge, I think – my sense of things is that the old bon mot, “Sell in May and go away,” should be the rule of thumb for small-time investors like myself this year.   

I’ll revisit these shares next week after expiration day.  Until then, happy trading!

The Deltas on My February Contracts

I’ve written about it before – delta – the option Greek that provides insight on the potential change in the option price based on volatility of the underlying stock.  More sophisticated traders than I am use it as part of their trade calculations, especially those who work on the put side of the charts.  It enters the calculations a little less often on the call side, which is most of the trades I do.

The actually meaning of the statistic is that in the case of delta valued at 1.00, a $1 move in the stock price will result in a $1.00 move in the price of the option.  These high values are most often seen when an option is in the money – the stock price is trading above the option strike price.   By the way, for puts, the delta moves inversely to the stock price (i.e., when the stock price goes up, the value of the put decreases).

As my experience in trading options grows, I may come to terms with delta and the other Greeks beyond my very rudimentary understanding of them so far.   One insight I have found with delta is it is useful to predict the likelihood of a stock being called away at expiration day (or at ex-dividend date, if that occurs within the month of expiration).  The higher the delta is, as it approaches or equals 1.00, the more likely the stock is to be called.

Since this month is where all of my money is on the table in Rescue My IRA, I don’t have a lot to write about on the blog and I thought I might put a post up about the four February contracts I have in play just now:

• CSCO 21 Feb 2013, yesterday close $21.19, delta .54
• HAL 35 Feb 2013, yesterday close $40.31, delta .89
• LNC 26 Feb 2013, yesterday close $29.50, delta 1.00
• SWK 75 Feb 2013, yesterday close $77.31, delta .85

Each of these positions are in the money, some deeper than others.  The high delta values on the HAL, LNC, and SWK options suggest that they are very likely to be called next week on expiration day, while it more of a 50-50 proposition for the CSCO shares. 

One of the takeaways from this review – something I’ll need to look in further sometime – is why the delta for HAL is not 1.00 at this point, given that the shares are in the money for the 35 strike by more than $5.00.  Compare that with LNC in the examples above, the shares are only $3.50 in the money.  To dig into this question, I will probably need to take a look at the stock beta for some insight.

In closing, this analysis shows that it is very likely my calls will be assigned for HAL, LNC, and SWK, and less likely for CSCO.  The result of these trades will be stocks gains totaling $1,460.04 – February will be a very nice month, indeed.

February Deltas and Exes

The date for options expiry this month is February 17.  While I was traveling last week, I talked myself into expecting a fairly complex trading week ahead for the Rescue My IRA portfolio since I had a few positions going ex-dividend this month, including a couple before Friday’s expirations.  While preparing this monthly assignment forecast post, I’ve found the situation not quite as complex as I thought, but I will make a note of the dividend situations in addition to the typical discussion of Deltas.

 

As I mentioned last month, in the book Options for Volatile Markets (linked over there to the right), Lehman and McMillan define delta as “the amount an option is expected to move for a one dollar move in the stock.”  Thus, as the value of delta approaches 1.00 – meaning a one dollar move in the stock will produce an equal move in the option price – you have a pretty good idea that your in-the-money option is going to be exercised.

 

Stocks going ex-dividend play into the probabilities for early assignment also.  You can imagine someone holding an option on a stock that is near-the-money or in-the-money taking a look at a scheduled dividend payout and doing some analysis to determine whether he or she is interested in collecting that dividend.  This becomes a straightforward calculation:  does the amount of the dividend exceed the remaining time value of the option?  In my portfolio, this month there is one definite early call waiting on my MSFT position, which goes ex-dividend on Tuesday, and I expect the stock to be called away Monday. 

Here is a table of the positions with a February option:

Estimated February 2012 Assignment Calculations

Recall that my goal in the Rescue My IRA account is to earn 1 percent per month, based on the December 31, 2011 value of the account.  That’s about $1,300 per month.  The results in the table – both the nominal results and the probability adjusted ones (here I have simply multiplied the option Delta value by the calculated stock gain) – show that I will meet my goals this month, before counting dividends and option premiums. 

Five of the positions are likely to be assigned based on their Deltas of 80%+:  DRI, GE, HAS, HRS, and MSFT. 

Two of the positions, IP and TGT, have already passed their ex-dividend date as of Fridays closing.  This is reflected in their Deltas of 50% - that will be corrected after trading in the options begins again Monday, and should be significantly higher than 50% given current prices. They are trading pretty close to the strike price, so if we have a good week it's likely they will be called away as well.

   

As before, it looks like I will have a substantial cash position to work with during the week after expiration.  I’ve been working on a new screen and have some candidate positions already identified.  But given progress here, it may be time to subscribe to a service that can do this for me…

January Expirations - and Deltas

January 20 is options expiry this month, so I wanted to take a look at the January contracts to see which ones I can expect will be called.  On another note, a recent discussion over on the Yahoo board touched on one of the “Greeks,” namely delta, defining it as the probability that an option will be assigned.  The Greeks are statistical calculations, often provided by the market, that can be used to assist in developing trade strategies.    

In their book Options for Volatile Markets (see the Amazon link over there to the right), Lehman and McMillan define delta as “the amount an option is expected to move for a one dollar move in the stock.”  Thus, as the value of delta approaches 1.00 – meaning a one dollar move in the stock will produce an equal move in the option price – you have a pretty good idea that your in-the-money option is going to be exercised.

My strategy is not yet so sophisticated as to use delta, or any of the Greeks, for that matter, in trades…maybe someday it will be.  Getting back to my post today, I will use it in the analysis that I present here. 

Here’s a table of the six positions up for January expiration:

There are a couple of things to note about this analysis.  First, my goal in the Rescue My IRA account is to earn 1 percent per month (in January, the goal is approximately $1,300) – the total here exceeds my goal, and is in addition to dividends and option premiums I’ll receive, so January’s looking like a good month. Second, each of the deltas are fairly high, approaching 1.00, or 100%.  Thus, it’s highly likely these contracts will be assigned and I will earn these amounts – which, by the way, are estimated net of commissions.

Another point I would make today is the likelihood of the CAT contract being assigned early.  Not only does the recent close far exceed the strike price on my contract, this stock goes ex-dividend on January 18.

And the last one, an issue I have mentioned before, is that the recent close price on these positions is higher than my strike price, meaning there is an opportunity cost I've given up by using the covered call strategy.  I've come to terms with that - what I'm finding is that there is an intangible benefit to having a strategy and feeling like your contracts provide some assurance you'll meet your financial goals.  And, as I noted above, I have certainly been able to do that for this month.

Finally, looks like I will have a substantial cash position to work with during the week after expiration.  With the recent market gains, I’ll need to get to work on finding some prudent new investments.