November 2011 Recap

As I've mentioned in a couple of past posts, I plan to give a monthy recap of trading history and results in my new Scottrade IRA.  The recap is loosely organized into the following sections:  account status, performance metrics, and a to-do list for the next month.  I expect the format and data reported will evolve over the first few entries until it is standardized - this will facilitate a regular evaluation of the results.

When I started the blog, I mentioned my disappointment with the results of having my IRA managed at one of the big broker houses - that I had invested about $77K only to see the value shrink to as low as $44K or so.  By the time I completed the rollover to Scottrade, which took nearly two months to complete, by the way, the amount invested in the IRA was $51,231 (amounts are always rounded on the blog).  My big-ass goal for this money is to generate 12% growth per year in the account.

Account Status:
Total Account Value, 10/31/2011 Statement:  $8,249 (account was opened during October, additional transfers were completed during November, taking the value up to $51K+, and will be reflected in the next recap)
Total Cash Reserve, 10/31/2011 Statement:  $404
Core Stock Positions:  AA (400 shares), CMCSA (200), COP (100), CSX (200), DIS (200), GE (400), GLW (200), IP (200)

Performance Metrics:
Option Premiums Collected (net, from opening through today):  $1,207
Capital Gains Collected (net, from opening through today): $167
Dividends Collected (recognized on the ex-date): $96
Interest on Cash Reserve (estimated total): $8
Total, Absolute Return:  $1,408
Absolute Return, Percentage Basis:  2.88%
Annualized Return, Percentage Basis:  17.55%

Next Month To-dos:
Two current positions will go ex-dividend next month:  DIS and GE; estimated dividends $140
Two covered call contracts expire in December:  CMCSA 22 and IP 29
Additional 401(K) from a past employer to be consolidated into the account
Write a trading plan to document strategies, goals, and processes

Consolidated Lessons Learned:

Basic covered call trading rule: I will concentrate on writing covered calls on the front (next) month; however, I will always seek to gain at least $100 on my trades and an estimated annualized return of at least 12%.

Covered call adjustment guideline:  On all adjustments – roll-ups and roll-outs, or combos – I will seek a net credit in order to maximize profits on this activity.

Potential for early assignment:  So far, I’ve had one position assigned early – COP in October.  This was because the stock was trading near the strike price during expiry week, and an ex-dividend date occurred at the same time and my shares were assigned on the ex-date.  I have no problem with taking the early profit, but on future trades I will consider the potential for early assignment and attempt to take advantage of it where possible.

Taking early profits:  So far, I’ve had limited opportunities to take profits at options expiry, although I expect that will become the routine situation in this account.  However, during sideways and down markets, it looks like there will be a periodic opportunity to close out option positions at a profit, as I was able to do on four holdings during the fourth week of November 2011.  Taking profits when the opportunity presents itself, as in this case, is okay and not a violation of my trading strategy.

Still need a formal trading plan:  I have enough fresh experience now to write a trading plan for the account, and hope to get that done during the month of December.  There are several good models to base this on within the “covered call community” so I will adopt one of these frameworks to use for my account.

Completing Adjustments: AA, CSX, DIS, GE

After taking advantage of last week’s market slide to complete a series of buy backs, yesterday the market had a bounce on good news about prospective retail activity during the holiday season this year.  So I went back in to complete adjustments on those old positions, which I will summarize in the post today.

 The four positions, in alphabetical order, are:  AA, CSX, DIS, and GE. Here are the covered call transaction histories for each of these positions.  Note that I am rounding the amounts here, and I am not calculating yields for this post in the interest of brevity.

AA

I have four round lots that I am working with in this position, and this is the first roll-out on AA.

·         STO (4) 11 Dec 2011:  $124.00

·         BTC 11 Dec 2011: ($52.00)

·         STO 11 Jan 2012: $100.00

·         Total AA premiums:  $172.00

CSX

I am working with 2 lots in this position, which I have now rolled-out twice. These shares went ex-dividend on 11/28, so a dividend payment of $28.00 or so will soon be making its way to the account!

·         STO (2) 22.50 Nov 2011: $39.00

·         BTC 22.50 Nov 2011: ($16.00)

·         STO 22.50 Dec 2011: $96.00

·         BTC 22.50 Dec 2011: ($46.00)

·         STO 22.50 Feb 2011:  $136.00

·         Total CSX Premiums:  $209.00

DIS

I am working with 2 lots on the DIS position, and it is also the second time I have rolled-out the position.  In past years, the stock has gone ex-dividend (an annual payment) in approximately mid-December; based on the payment history for last year the dividend will be about $80.00, assuming I am not assigned early on the Jan 36. Also, this one has that lesson learned story: the first adjustment was completed with a net debit – I don’t allow that to happen any longer.

·         STO (2) 36 Nov 2011:  $81.00

·         BTC 36 Nov 2011:  ($131.00)

·         STO 37 Dec 2011:  $155.00

·         BTC 37 Dec 2011:  ($44.00)

·         STO 36 Jan 2012:  $176.00

·         Total DIS Premiums:  $237.00

GE

I have 4 lots in this position, they were bought in two transactions.  Like DIS, this stock is anticipated to go ex-dividend during December, so there will be a yield of about $60.00 to the position.  This was a roll-out and roll-up since the 17.50 contract is not available anymore.  Because I sold June 2012 contracts, as long as the position is not assigned, I will likely collect dividends in March and June as well.

·         STO (4) 17.50 Jan 2012:  $137.00

·         BTC 17.50 Jan 2012:  ($72.00)

·         STO 18 Jun 2012:  $152.00

·         Total GE Premiums:  $217.00

With these adjustments completed, I only have two positions left for the December expiration:  two IP contracts 29 Dec 2011 and two CMCSA 22 Dec 2011. I will probably let these two ride until expiry. 

Tomorrow I will close the month with a summary of activities and some yield calculations.

Some Buy Backs

Q:  A Greek, and Italian, and a Spaniard go into a bar for a drink.  Who buys?
A:  The German.

Between the European issues referenced in the joke above - I found it in the Washington Post last week, but misplaced the source - and the inability of the "Super Congress" to reach a budget deal in the US, the markets took a major hit last week. 

With my account fully invested in positions, I looked for an opportunity to do something to help continue progress on rescuing my IRA, and what I decided I could do is to take some of the covered calls off of the table as their premiums declined in value quickly.  Targeting my December calls, I found three that I could buy back for a net profit.  I also found one January call to buy back.

• 2 GE 17.50 Jan 2012, sold for $137 bought for $72; profit $65
• 4 AA 11 Dec 2011, sold for $124, bought for $52; profit $72
• 2 DIS 37 Dec 2011, sold for $155, bought for $44; profit $111
• 2 CSX 22.50 Dec 2011, sold for $96, bought for $45; profit $51

Taken on their own merit, these trades netted a total of $299.  In addition, since three of the stocks will probably go ex-dividend during December (CSX, GE, DIS, although GE and DIS have yet to announce), these holdings are now clear of the risk of early assignment.

While this isn't a core element of the covered call strategy I adopted for my account, these profits will add to my returns, and I can now look for new covered call situations for them.  The pure execution of the strategy would have been to keep the calls until they expire. 

I hope to execute replacement trades in the next week, but will probably wait a few days for the market to stabilize after the series of down days we've been having lately.

If I am able to get these trades done during November, that will be my next post.  Otherwise, I will complete an analysis of the account activities to date and report on returns during the first two months of following this strategy.

November Calls Expiration Results: COP

Last week, I took advantage of the turbulent market to roll-up and out on CSX and CMCSA, stocks that I had sold November calls against.  I sold December calls and closed the November positions. 

After doing this, I was left with only one November contract, COP 72.50 Nov 2011.  I was looking to roll-out to December with the same strike price on this position, but because the market continues to trend down on European news and on the pending failure of the Super Committee to reach a budget deal, I had to move out to Jan 2012 to meet my goals for the transaction.

I was able to sell to open on the COP 72.50 Jan 2012 for a net premium of $142.74.  This brings me back to a net gain on option premiums (COP was one of my learning experiences, I did a previous adjustment for a net debit); I have currently collected a total of $113.97 in premium on the COP shares, which I bought for $6,988. 

The January position also sets me up for the potential of collecting quarterly dividends, estimated at $66.00, with an ex-date of approximately January 13.  My capital gain on the stock if assigned will be approximately $490.00. 

If assigned and I collect the dividend, the absolute return on the shares would be $674.00, or 9.65%.  Annualized, this is just about 48% for an approximately 75 day holding period.

Adjusting DIS, Roll-up and Out

A final post on the adjustments I’ve made in the portfolio positions this month, this time a roll-up and out on DIS.  I have always liked this stock since I first started investing in the early ‘80’s, so it was inevitable I would come back to it for the covered call portfolio.  It recently benefited from some good earning news, and since it passed my screen, I decided to make it one of my early holdings. 

I first bought the shares in early November and sold a Nov 2011 covered call against them that same day.  The earnings news combined with the prospect of a juicy annual dividend that is yet to be announced, but that has gone ex-dividend in early December in past years, had me revisiting the strategy almost immediately.  I decided an adjustment was in order.

Here is the analysis of the position and the resulting adjustment.

DIS

11/8/2011 Bought 200 shares at $34.55 (total $6,917)
11/8/2011 Sold 2 DIS Nov 2011 36 at $0.45 (total $80.49)
11/14/2011 Bought to close 2 DIS Nov 2011 36 at $0.61 (total $131.50)
11/8/2011 Sold to open 2 DIS Dec 37 at $0.83 (total $156.48)

Net Profit:

1) Options Income:  + $80.49 - $131.50 + $156.48 = $105.47
2) Dividend Income: If held to ex-date, based on last year’s payment, $80.00
3) Capital Appreciation if assigned at $37:  $7,382-$6,917 = $465.00

Total Net Profit if Assigned:  $465.00 + $80.00 + $105.47 = $600.47
Absolute Return on Investment: ($600.47/$6,917) = 8.68%
Annualized Return if Assigned (38 days):  8.68%*(365/38) = 83.37%
Yesterday's closing price was $36.45, so the Dec 37 is currently out of the money (OOM).

Lessons Learned:  On this trade I applied my new rule about adjustments, namely, they must be done for a credit – as shown in net profit calculation 1) above.  The second thing I am working on is how to report pending dividends in the total net profit calculation, especially since this part of the trade is most likely to stimulate an early call. In future posts, I think I may have two total net profit calculations, one for the “if assigned” assumption and one for the “if not assigned” assumption. In the case of DIS, the absolute return would be around 7.5% and the other figures would adjust accordingly if I am assigned before the stock’s ex-dividend date. If I am not assigned and collect the dividend the absolute return drops to 2.68%, and the net profit would be $185.47.

Adjusting IP: Rolling Up and Out

Early in the development of this covered call approach, I chose IP as one of my stocks.  As I’ve done additional research to map out my process and stock selection scheme, this stock is one that doesn’t meet all the criteria.  But I like it, and a lot of the colleagues I have been following trade IP options; and I have to admit it has been a stock that has given me a lot of experience already in the short time I have been working with this strategy.

Coincidentally, I noticed yesterday on one of the blogs I follow that a colleague has worked on a similar trade with this stock – an adjustment to the strike price of the call and to the contract month.  There is a link to his post at the end of this one.

With IP approaching ex-dividend date (yesterday), I began to think of whether I might make an adjustment to my holding of 200 shares and the covered call I had sold on them.  I had two Nov 2011 26 contracts, and soon after I bought the shares the contracts had gone in the money (ITM).  So I have been keeping an eye on the position for a while, in light of the pending dividend ($28.75 per lot) – remembering that my COP was called away last month on the ex-date.

Here is the analysis of the position and the resulting adjustment.
IP

10/13/2011 Bought 200 shares at $25.29 (total $5,064.48)
10/13/2011 Sold 2 IP Nov 2011 26 at $1.03 (total $196.48)
11/8/2011 Bought to close 2 IP Nov 2011 26 at $2.67 (total $543.50)
11/8/2011 Sold to open 2 IP Dec 29 at $1.00 (total $190.48)

Net Profit:

1) Options Income:  + $196.48 - $543.50 + $190.48 = -$156.54
2) Dividend Income: Held to ex-date, $57.50
3) Capital Appreciation if assigned at $29.00:  $5,782-$5,065 = $717.00
Total Net Profit:  $717 + $57.50 - $156.54 = $617.96
Absolute Return on Investment: ($617.96/$5,065) = 12.20%
Annualized Return if Assigned (14 days):  12.20%*(365/64) = 69.58%
Yesterday's closing price was $28.15, so the Dec 29 is currently out of the money (OOM).

Lessons Learned: There are a couple of takeaways from this trade. The first is a reinforcement of working on the assumption that I will seek to create credit transactions on contract adjustments, rather than debits, as I did in this case.  Second is to keep an eye on ex-dates, although I learned that one last month with COP. Third, and still unresolved – this seems to be a good trade, even though the shares don’t meet my criteria for having them in the portfolio; so I may need to have a way to resolve exceptions in the future…especially when there is the opportunity to participate in a “hot stock.”

My friend’s post – and note he has a lot more experience with covered calls than I do – is here: http://coveredcallsadvisor.blogspot.com/2011/11/roll-up-and-out-international-paper-co.html

Adjusting COP: Roll-up

As I mentioned in the previous posts, I made adjustments to several of the positions where November Covered Calls have been written.  I will summarize each of the transactions in separate posts.  Today, the underlying is COP.

As a note, COP was my first covered call transaction in the new Scottrade account.  I bought the shares at $63.09 and sold an Oct 65 which was assigned on the dividend ex-date.  That transaction whetted my appetite for this strategy.

Because I want to have a diversity of opportunity across industry sectors in this account, I returned to COP for a new transaction this month.  Analysis below is net of commissions.

COP

11/4/2011 Bought 100 shares at $69.81 (total $6,988)
11/4/2011 Sold 1 COP Nov 2011 70 at $1.48 (total $139.74)
11/8/2011 Bought to close 1 COP Nov 70 at $2.26 (total $234.25)
11/8/2011 Sold to open 1 COP Nov 72.50 at $.74 (total $65.74)

Net Profit:

1) Options Income:  + $139.74 - $234.25 + $65.74 = -$28.77
2) Dividend Income: None, ex-date was in October
3) Capital Appreciation if assigned at 72.50:  $7,232-$6,988 = $244

Total Net Profit:  $244 - $28.77 = $215.23
Absolute Return on Investment: ($215.23/$6,988) = 3.08%
Annualized Return if Assigned (14 days):  3.08%*(365/14) = 80.3%
Today's closing price was $71.70

Lesson Learned:  I was not happy to complete the roll-up for a debit, which reduced my options income on this trade (at this point, anyway) to a negative amount.  I will institute a new rule about adjustments going forward - roll-ups and roll-outs will not be written for net losses; I will seek to complete adjustment transactions for a net credit. 

Nov 2011 Covered Call Positions

I have two CC positions that will be held through the week.  At present, I have no plans to complete an adjustment on them, as there is no ex-dividend date on either before options expire this Friday, but I may reconsider in the case of CSX.  The positions are: 

• 2 CMCSA Nov 22.00
• 2 CSX Nov 22.50

What follows is a transaction history on each position, net of commissions.

CMCSA

11/9/2011 Purchased 200 shares at $21.89 (total $4,392)
11/9/2011 Sold 2 Nov 2011 22 at $0.43 total ($76.49)

Net Profit:

1) Options Income: $76.49
2) Dividend Income: $0.00 (ex-date is 12/30/2011)
3) Capital Appreciation (if assigned at $22): $11.00

Total Net Profit:  $86.49
Absolute Return on investment (purchase price) $86.49/$4,392 = 2.0%
Annualized Return if assigned (stock held ten days):  2.0 * (365/10) = 73.48%
As of the time of this post, the stock closed at $22.21, above the strike price of the option.

Lesson learned:  One of my colleagues has a rule that he will not execute a trade that does not generate at least $100 in net profit and an annualized return of 20%.  This trade met one requirement but did not meet the other, but I proceed because of the very short term.  Due to the impact of transaction costs, I think that having a dollar value threshhold is a good idea, so I am adopting the $100 rule; however, I am willing to accept an annualized return of at least 12% for my trades.  I will apply this rule for all future trades after November 2011.

CSX

11/7/2011 Purchased 200 shares at $21.71 (total $4,349)
11/7/2011 Sold 2 Nov 2011 22.50 at $0.24 total ($38.48)

Net Profit:

1) Options Income: $38.48
2) Dividend Income: $0.00 (ex-date is 11/28/2011)
3) Capital Appreciation (if assigned at $22.50): $169.00

Total Net Profit:  $207.48
Absolute Return on investment (purchase price) $207.48/$4,349= 4.78%
Annualized Return if assigned (stock held 12 days):  4.78% * (365/12) = 145.47%
As of the time of this post, the stock closed at $22.31, below the strike price of this option.

Initial Positions Established

Okay, since the transfer from Ameriprise has finally taken place, I moved ahead with the covered call strategy, establishing a total of eight positions, including the GLW and IP that were already in place. I established a 20% cash reserve and invested the remaining funds in shares, as follows:

AA - 400 shares at $10.24
CMCSA - 200 shares at $21.89
COP - 100 shares at $69.81
CSX - 200 shares at $21.71
DIS - 200 shares at $34.55
GE - 200 shares at $16.28, additional 200 shares at 15.99
GLW - 200 shares at $13.60 (actually purschased last month)
IP - 200 shares at $25.29

My goal was to invest no more than 10% in each company, but because I needed to work in round lots, the allocations work out to be more around 12% on average.

In any case, I have sold covered calls on all of these positions - I'll list the initial options below, and then in a future post will discuss those I have adjusted or closed.

AA - 4 Dec 11s netting $124
CMCSA - 2 Nov 22s netting $75
*COP - 1 Nov 70 netting $140
CSX - 2 Nov 22.50s netting $39
*DIS - 2 Nov 36s netting $80
GE - 4 Jan 17.50s netting $137
GLW - 2 Jan 15s netting $110
*IP - 2 Nov 26s netting $196

These positions have subsequently been adjusted.  I will post a follow-up on these transactions.

It is options expiration week, so I have CSX and CMCSA shares sitting under calls, we'll see what happens Friday.

Transfer and Trades

The majority of my funds from the Ameriprise account has finally made it over to Scottrade, so at last I could begin to implement my plan to "Rescue My IRA" using a covered call strategy for increased yields and capital gains.  Despite my frustrations with how long the transfer took, I actually enjoyed a small benefit from the delay due to rising markets in early October - I calculate the total starting value of the Scottrade account as about $51K, up from a low of around $43K but far below the starting value at Ameriprise of $77K. 

We've got some work to do here.

In an earlier post I mentioned my screen and the stocks that had been identified by it:

AA, COP, CSX, DIS, GE, GLW, MRK, MSFT.  Yesterday I added two more potentials, CMCSA and PKI.  There's pretty good diversity here, especially from within the framework of a portfolio approach and using a trading plan (yet to be completed, but I will share the documentation here when that it done).

Wanting to get the money working for me as soon as possible, I already have established a number of positions:  COP, CSX, DIS, GE, and GLW, plus IP which is a holdover from the early days of the account before I settled on screening criteria (IP doesn't fit, when the options on it expire I will need to evaluate the position).

I will post over the next few days the analysis and expected results for these positions.  However, the account is not fully invested yet, there is approximately $12K remaining - in addition to the cash reserve that I set at 20%.

Qualifying Stocks/Waiting on the Transfer

Scottrade tells me that Ameriprise does all their transfers in a batch, and that is done weekly on Tuesdays.  So hopefully, later today, I will know that the transfer is done; there may be a few days of waiting for the funds to make their way into my Scottrade account.  During all this, I have been keeping busy doing research about what stocks to keep as core holdings to implement the covered call strategy around.

The folks over on Yahoo's "Just Covered Calls" board have been very helpful on this front - it seems that optimally, the investor/trader using this strategy needs to have a routine, and a second pointer was to only pursue stocks you wouldn't mind owning, in case you end up holding when they are not assigned.  I've still got some work to do on developing the routine, but in the meantime, I've developed some ground rules for choosing the initial stocks.

First, I put together a candidate list from some Motley Fool information - they have a lot of material on high-yielding stocks, for example.  Second, I took some cues off of what the other covered call group members are using.  And third, I filled out a list of 30 potentials using a "dogs of the Dow" screen: which of the 30 DJIA stocks are performing worst year to date.

With this list of thirty, I put together a spreadsheet that would further screen them using some basic rules:

• A four or five star rating from both Morningstar and S&P (surprisingly, this eliminated IP, which I currently hold, and disqualified my ACM, the company I currently work for, where I hold shares!);
• There must be a dividend, and I am looking for >1%, but optimally 2%-5%;
• The price at the time of the purchase should be near the midpoint of the 52-week high and low; and
• The companies must be a significant brand name to ensure longevity and company quality.

Now, I may revise these a bit with experience.  For example, the first rule could be subject to revision once I have more practice reading fundamentals for myself.  The third rule could be revised as well, using a "fair value" calculation (one of the Yahoo board posters has a "fair value" calculation that he uses to set a target price of 80% of fair value) - I used the 52-week midpoint as a surrogate for this to ensure that there was price upside and adequate volatility to ensure a good premium on the calls.

This screen gave me a short list of 8 candidates, as follows:

• AA
• COP
• CSX
• DIS
• GE
• GLW
• MRK
• MSFT

Next post I will write about the position rules for my shares.