Monday morning Morgan Stanley downgraded SiriusXM (SIRI) from Overweight to equal weight, essentially a change from buy to hold. At the same time, the analyst, Benjamin Swinburne, increased his price target from $2.00 to $2.30. One concern was his subscriber growth projection of 1.3 million, apparently below a consensus estimate of 1.5 million. Both figures are considerably below the 2011 growth of 1.7 million subscribers.
I look forward to seeing the 2012 subscriber growth projections from Sirius within the next few weeks when they report fourth quarter and full year results. In the interim, I have decided to take the opportunity to generate a double digit return on an investment in Sirius with - what I perceive to be - minimal downside risk. This will be done with a covered call strategy.
I had several small Sirius long positions in various accounts where I had sold $2 January 2012 calls. Late last week as January options expiration approached, I was considering whether or not to roll the calls forward - buy back the $2 January 2012 and sell the $2 January 2013 - or to just let the shares be called away for $2. In the end, I let the shares get called away.
These transactions were not unexpected when I originally wrote the calls and the original strategy achieved its purpose - to generate annual double digit returns. With $2 January 2013 options premiums and the current share price declining to about $2.05 today, there is again the opportunity to pick up a double digit return with a similarly low downside risk.
With the shares trading at $2.06 Asked and the options trading at $0.36 Bid / $0.38 Asked, I entered a combination order to buy the shares and simultaneously sell the calls at a net debit of $1.69 per share. (This is essentially placing simultaneous limit orders and is a single transaction). If all goes as expected, the shares will be gone next January for $2 per share, a return of more than 18%, excluding commissions. The math is simple:
($2.06 SIRI price - $0.37 option premium) = $1.69 Net Debit
($2 Sale Price - $1.69 Net Debit) = $0.31 Capital Gain
$0.31 / $1.69 x 100% = 18.3%
If Swinburne is exactly correct and the shares go to $2.30, buying today at $2.06 would yield under 12%.
( $2.30 - $2.06 ) = $0.24
$0.24 / $2.06 x 100.% = 11.7%
Does it sound too good to be true? Well, if you believe Sirius is going substantially above the $2.30 Swinburne target, you would be leaving money on the table. The break-even point - in percentage terms - means the price would need to go back to the high that Sirius reached last May - $2.44 - to equal the 18.3% return of the covered call strategy outlined above. If the stock reaches the $3 target put out there by Barrington Research, the amount of money left on the table is substantial. Many investors are far more greedy than I am and want the $3.
I wrote that this is a relatively conservative investment. This is based on the company's strong 2011 subscriber growth and increasing levels of free cash flow forecasted at $700 million for 2012. It is also based on the belief that Liberty Media (LMCA) will be increasing its ownership of Sirius to more than 50% at some point during 2012 putting some upward pressure on the price.
In Oliver Stone's Wall Street, Gordon Gekko said "Greed is good." In this case, I'll be satisfied being a little less greedy. I entered the order shown above with a Net Debit price of $1.69 looking for the 18% return. It has only been partially filled at this point. Maybe being even less greedy would have still been good and been a much better idea.
Additional disclosure: I have a variety of long positions in SIRI and have executed the buy the shares sell the $2 covered call strategy described in this article and may do so again at any time. I have previously sold covered calls against other portions of my position and may do so again at any time. I have no positions in other companies mentioned in the article and no plans to trade those companies in the next 72 hours.