Coventry Health: Option Combination with Good Risk/Reward

Coventry Health (NYSE:CVH) closed on December 31 at $14.88.

• Trailing P/E = 4.77x - Forward P/E = 5.90x
• 52-week range: $9.44 - $63.89

This out-of-favor issue has had 10 insider buys since October 24^th with no insider sales. The shares are way down form their highs while earnings are still quite positive. Value Line rates their financial strength ‘A’ and notes their shares have outperformed 80% of all stocks in their 1700 company universe over the long term.

Here is an option buy/write combination with the actual prices I was able to get on December 31^st.

ICVH shares are $15 or higher on expiration date (Jan. 15, 2010) plus 1% from their 2008 closing price:

• The calls will be exercised.
• Your shares will be sold for $15,000.
• The puts will expire worthless (a god thing for you as a seller).
• You will have no further option obligations.
• You will hold $15,000 for your original $6,980 outlay.

That’s a best case gain of $8,020 on a 1% or greater move in the stock.

If CVH shares are lower than $15 on expiration date:

• You will be forced to buy an additional 1000 shares.
• Your $15 Calls will expire worthless.
• Your $15 Puts will be exercised.
• You will buy 1000 shares for $15,000 of new cash.
• You will now own 2000 shares of CVH total.

Here is your break-even on that scenario:

On the shares originally purchased at $14.88 it’s that price less the $4/share call premium received = $10.88/share.

On the newly ‘put’ shares you were forced to buy it’s the $15 strike price less the $3.90/share put premium = $11.10/share.

Your average net cost basis would be $10.99/share or 26% below your starting price of $14.88. At $10.99 /share the projected P/E for 2009 is 4x.

As long as CVH shares are above $11 you will not lose money.

At $15 or higher you will have made over 114% in 12.5 months.

Comments

[Tom Armistead:]

Thanks, another good idea. The combination of high volatiltiy and low market prices makes this strategy attractive.

Jan 04 10:24 AM

[Dan Jacome:]

but what is the catalyst? Just insider buying? a low P/E? You can say the same about a number of stocks. Joe Paduda over @ managedcarematters.com is out today citing CVH as a takeout target - what do you think??

Jan 04 11:26 AM

[Paul Price:]

Here are his comments:

1. Coventry will be acquired.
Currently trading just under $15 per share, Coventry Health looks to be an attractive target for another second-tier health plan company. They have solid operations in many secondary and tertiary markets, some decent business in Medicare and other governmental programs, and their work comp sub is wondrously profitable. Expect it to get bought some time this year - likely after the credit markets loosen enough for potential acquirers to feel a little more comfortable. As to what happens with Coventry's comp business, more on that when the time comes.

It's entirely possible if there is credit availability for LBOs.

Jan 04 12:02 PM

[Paul Price:]

Coventry Health Care (CVH): Q4 EPS of $0.60 beats by $0.01. Revenue of $3.0B (+8.3%) in-line. (PR)

Shares closed yesterday (Feb. 9) at $16.89.

Feb 10 09:16 AM