JNJ: Don't Get Fooled by Dividend Plays

By Jon Najarian

Wednesday we saw 173,000 calls change hands in Johnson & Johnson (JNJ), many in large blocks as the final hour of trading approached. But these were not the kind of institutional-size trades that give us the directional information we normally look to possibly follow.

No, trades like this are done by professionals to collect the dividend on in-the-money calls. Here's how that works:

With JNJ trading around $56.40, the traders noted 4,900 contracts open at the June 50 call strike. They buy and sell these calls, in what I'll call "flipping"--in this case, buying 20,000 for $6.40 and selling 20,000 for $6.40 in the same second, alleging that in that single second they exercised their right to turn those in-the-money calls into shares of JNJ, thus making themselves eligible for the dividend.

With fewer than than 5,000 contracts open interest, we saw more than 110,000 calls flipping in and out this way yesterday. No "tell" here, folks, so move along!

Comments

[JRG1:]

How does this specifically work, wouldn't you need to hold the shares at close of business?

May 21 01:45 PM

[JRG1:]

How does this specifically work, wouldn't they need to hold the shares at close of business? I thought dividend arb was a legend

May 21 01:47 PM

[JRG1:]

How does this specifically work, wouldn't they need to hold the shares at close of business? I thought dividend arb was a legend

May 21 01:47 PM

[JRG1:]

How does this specifically work, wouldn't they need to hold the shares at close of business? I thought dividend arb was a legend

May 21 01:48 PM

[igggy:]

This can't be true or J&J (and any other dividend paying company) would go bankrupt paying the dividends multiple times. Unless the dividend is paid by whoever is short the call but even then that party would have to pay the dividend to every flipper. Doesn't make sense. Sorry.

May 21 07:49 PM

[livesinhiscar:]

Only stock holders can receive dividend payments from the company.....I've never heard of option holders receiving dividend payments.

May 22 12:12 PM

[The Willmaster:]

I buy 10,000 calls from you and exercise them
You buy 10,000 calls from me and exercise them
Some poor schlub's retail firm fails to exercise his calls
All exercises and assignments are in a big blender at the OCC
I don't exercise from you directly nor you from me
I skate on paying sclub's dividend
And bingo free money

May 22 12:18 PM

[Augustus:]

In order to receive the dividend, the actual SHARES must be owned. Buying options and exercising them would seem to be a very expensive way to acquire shares compared to just buying them in the market. Buy the shares, sell the calls as cover and some possible protection on price decline. Move the shares out the next day (after the ex-div date) and buy the calls back. Pretty thin margins to try to profit from.

May 22 12:55 PM

[Big K:]

The author needs to do some better explaining of this one. Only the holders of record are "eligible for the dividend." If you excersize a call option, it means you buy the stock. Turning around and selling an equivalent call is a different transaction, and does not un-do your purchase. You still own the stock until someone buys and excersizes your call. So, the folks described above must excersize their calls by buying the stock at the strike price, then sell the covered call on it, and hopefully receive the same premium. Until someone buys the option from them, they have to bear the market risk. Deep-in-the-money call ensures that the call will actually be excersized. The caveat is receiving the same premium. I don't see how it is possible to do this within one second, however.

May 25 12:21 PM