The time to get bullish on Linn Energy LLC (SYMBOL: LINE) is here again and to help set up a trade for 2013.
Linn Energy LLC closed at $36.17 on 12/14/2012 and with its $2.90 in estimated dividends for a yield of 8.00%. The yield alone makes Linn Energy LLC more attractive than many other energy producers and shares have declined due to the harvesting of capital gains in 2012 before uncertain tax consequences in 2013 and beyond.
This leads to an opportunity in Linn Energy LLC option market that will help to reduce further downside risk and gives an investor unlimited upside exposure.
I want to establish a bullish option trade called a risk reversal. I want to establish this trade in the January 2014 option expiration for Linn Energy LLC in the $35 strike. The risk reversal is to sell the $35 put options and to buy the $35 call options for the January 2014 option expiration.
The selling of the $35 put would net the investor $4.10 net credit and the $35 call options would have a $3.00 net debit putting the investor in a $1.10 net credit position overall. The current margin requirement for setting up the trade is roughly $800 or $8 per share which is important in calculating returns; which will be discussed below.
This is a bullish trade that gives an investor unlimited upside bullish exposure as they own $35 call options and participate in any upward moves the stock may have.
The trader does obligate himself to purchasing the shares at $33.90 which is the maximum risk in this trade. The maximum value at risk being that the investor would be long shares at $33.90.
If Linn Energy LLC were to revisit the $40 level (on January 2014 option expiration) the profits generated from this trade would be $1.10 in net credit + $5.00 value or total profits of $6.10.
The profits of $6.10 against the current margin requirements of $8.00 would produce a return of 76.25% but would return 17.99% against the maximum value at risk.
Now the question comes into being of why someone would be that bullish on Linn Energy LLC given the shares recent decline while the broader market and energy producers have remained flat.
As mentioned some of the share decline is related to the tax harvesting of capital gains in 2012 due to uncertain tax consequences in 2013 and beyond. Also Natural Gas and Crude Oil prices have pulled back which have hurt energy producer shares.
Linn Energy has an excellent hedging program and has significant portions of their production hedged at attractive levels through 2015 and additional hedges through 2017. The hedges help to eliminate downside commodity price risk in the company's performance.
Earnings per share expectations are anticipated to be roughly $1.90 in 2013 and $2.30 in 2014; which would put the P/E ratio at 15.71 for the 2014 earnings per share estimates.
If one looks at the broader market and other energy produces, a 15.71 P/E with a yield over 8% makes a bullish position in Linn Energy LLC look like a solid bullish investment opportunity for the 2013 fiscal year and beyond.
Disclosure: I am long LINE.