The Cooper Companies: A Profitable Option

| About: The Cooper (COO)

In a recent article I outlined a concept for generating income with retirement and dividends as the focus. In addition to concentrating on dividends and long-term asset value appreciation, it is important to not lose sight of short term trading opportunities to earn income.

Adding some short time frame transactions to a portfolio adds income, and it is important to conduct the trade with the same diligence and dedication as a long term transaction model. This allows you to take advantage of market-driven opportunities or company mistakes that affect share price.

When looking to capitalize on a trade verses an investment, I still maintain my covered call and cash secured put strategy. There have been numerous comments regarding the covered call component of the trading strategy, which certainly carries some risk. If you do not define your exit point at the time of purchase, you run the risk of playing “gambler” with the stock rather than maintaining a rigorous investment stance. Emotionally, the risk of missing a big gain can outweigh the logic of your pre-defined exit point.

Coupled with what can be lower than desired contract prices, this further exacerbates the emotional impact of the covered call strategy. To mitigate this emotional downside, I have found that setting profitability targets for each trade as part of my planning process allows me to accept an exit point based on my research. Of course, if the stock screams past my exit price it hurts a little, but as long as I reach my profitability goals, I can look back and still consider it a job well done.

Recently, an opportunity presented itself with a product recall by The Cooper Companies (NYSE:COO). The Cooper Companies is a manufacturer of contact lenses and women's healthcare products. When the news of the recall hit, I began my research. This stock has been a steady performer, basically tracking with the market. The recall news and the executives’ handling appeared to have caused the stock to drop from an October high of $82 to an October low of $63.85.

My research indicated that the floor had been set at $70 and I placed an October 22 cash secured put for $68 priced at $3.50. This was done with one week to expiration. The option was assigned at $68. On the next trading day, I placed an order for a covered call with a strike of $75 priced at $1.75.

I considered many other factors prior to the purchase since I needed to be comfortable owing the stock if assigned. October is the end of its fiscal year and there were no warning signs for an earnings disappointment. It guided slightly higher for 2012, noting improved efficiency. Analysts following the stock didn’t overreact negatively to the recall, and the possibility of being acquired was still in play. Price targets were still in the mid- to high- eighties.

Nearly all shares are owned by institutions (98%), which I regard as a headwind since a single trader could send the stock plummeting if profits were taken prior to end of the year. COO reports earnings on December 5th so fund managers have plenty of time to sell on any good news and book profits prior to the end of the year.

The table below shows the pricing and percentage gains for each leg of the trade. My risk is that the stock will rebound rapidly to its norm and I will miss some profit taking since I am locked in with a strike of $75. Since I calculated this at the outset of the trade, I am comfortable making nearly 10%.

COO Trading Profile

Today's Price

$70.55

Strike

Cost

Percent

Cash Secured Put

$68.00

$3.40

4.82%

Covered Call

$75.00

$1.75

2.48%

Price Delta Today

$2.55

3.61%

Strike Price Delta

$7.00

9.92%

Click to enlarge

Interestingly, it appears that this tactic still has some viability for those of you who want to take advantage of the situation. The Cooper Companies trades very lightly in the options market, but the November 19 Put pricing for a $65 strike is still $1.50. The $70 strike is $3.10. I don’t see any reason for the stock to contract to the $65 level again, so the $70 strike is therefore one I would take a hard look at. Calls Tuesday were priced at $.70 for the $75 strike and $2.70 for the $70 strike.

COO Trading Profile

Today's Price

$70.55

Strike

Cost

Percent

Cash Secured Put

$65.00

$1.50

2.13%

Covered Call

$75.00

$0.70

0.99%

Price Delta Today

$5.55

7.87%

Strike Price Delta

$10.00

14.17%

Click to enlarge

The Cooper Companies does not fit my model for a retirement account, but due to recent company-induced problems, there is a profitable opportunity to add income to your portfolio.

Disclosure: I am long COO.