There are many folks out there with different views on Sirius Radio (NASDAQ:SIRI). You have your bears, you have your bulls and you have those undecided in between. One thing all of them (hopefully) have in common is they ALL (especially yourself) are looking to make money. Otherwise, what is the point?
Although Rocco Pendola did beat me to the punch a tad with this article, I wanted to explain my concept on how to work safely with being a SIRI bull and generate income as well. Keep in mind, if you are not bulllish on this stock, this concept may not be for you. It can work for other stocks as well, but my personal experience is with Sirius over the last couple years or so.
Take a look at the running 12 months for Sirius. As you can see the range during those 12 months was a low of $1.48 and a high of $2.33. For the most part, it has traded within its Bollinger Bands, and other than the large drop in October (which is recovered from) it basically has been in the $1.75 to $2.10 range for a majority of this year.
So why is this chart important and what does this have to do with option strategies? I will tell you what I have done the last year or so and why it has worked for me. But before I do, here is how I got started with options and what concepts make this work from my point of view.
I have been a serious bull on Sirius for about 18-24 months now. I was part of the crowd back in the late 2006 era that held shares with cost basis around $3 or $4 right before the late 2008-early 2009 free fall. I took a shot and dollar-cost averaged myself down to under $1 (not that hard when most of the shares I bought were in the .10 to .15 range).
After acquiring the shares (now had about 3000 or so, around March-April 2009) I looked at some of the pricing for writing covered calls on 2500 of them. My cost basis was now around .60, the stock was near .50 and the only options that looked appealing were the $1 calls for Jan 2010. I believe I got around .10 a share for them, for $250 (less commissions and option fees). Why did I make this trade?
Most options expire worthless: I have been on both sides of this, but it is a fact that unless you are selling options that are ITM already, there is a better chance than not that the option will not come to fruition. As you can see here there is a 75% chance on average that your option will not reach the level you need it to in the time needed.
I owned a large amount of the shares: Ok, I know 3000 shares is not all that many unless the ones you own are Apple (OTC:APPL) or Google (NASDAQ:GOOG) but to me at that time it was! When you write covered calls against your position for low amounts (like the .10) fees and commissions can take a huge chunk of your net. So having enough shares to offset that is vital to this being worth your while.
If the shares were called I still made a nice profit: As I mentioned earlier, at the time I made this trade, the stock was in the .50-.60 range and although I was not as bullish as I am today on the stock, I felt that Mel was beginning to turn things around a bit. Liberty (LCMA) had just acquired its 40% stake in the company and my thinking was it wouldn't do so unless it knew something we didn't. Again, if you are not somewhat bullish on a stock and fear a major decline, this strategy would not work for you. If the stock hits the $1 mark by January, I pocket $250 for selling the calls, plus $2500 (all gross pre fees and taxes) for a total of $2,750 and still own 500 shares. My cost basis on the total 3,000 shares was around $1,800 so we are talking about a worst-case scenario of over a 50% ROI in less than a year AND still owning 500 shares. The name of this game (for most) is to make money, not fall in love with the stock. I will take a 50%+ ROI in less than a year any day of the week, and you should too!
If the shares aren't called... If the share price does not reach the $1 mark within the time frame, I pocket the $250 and can reset and do the same thing again (which is what I did). Now, not only did I pick up a few bucks as I watched the share price climb to the .70-.80 range, I now effectively lowered my cost basis ($1,800- $250 = $1,550 CB now .52) so if my thought process changed where I was not bullish, I can either make more of a profit (if above my original cost basis) or need less of a climb to get back in the black.
How does this translate to today?
As my good friend would say at this point, "I didn't know I was back in history class". So how can this concept be helpful today? And why does Siri look attractive for it? Going back to the chart, take a closer look at the last year again:
I have highlighted 3 month gaps over the last year where the stock remained with no gains (important) over about a 3 month period of over 15%. Losses (for the purpose of selling covered calls) do not concern us. If you are selling covered calls against your position, you are hoping for them to expire worthless, not get called. I will go into more detail on this when I finish part 2 of this article.
So how does this help us? The concept is fairly simple. Let's say for example you recently purchased 5,000 shares of Siri with a cost basis of
$2.10. You are bullish on the stock, yet want to make money on it as you own it. Let's look at the option prices at close on 2/15:
Jun 12 2.50 $.09
Sept 12 2.50 $.14
You could sell all or some of your 5,000 shares, pocket either around .10 to .15 per share, and generate some revenue. Let's say for this example, you sell Jun 12 2.50 covered calls against 4,000 of the 5,000 shares you own at $.10 each. You would generate $400 gross, and remember this is about 3-4 months from now so even if the stock DID jump 15% in that time frame, it would only be worth $2.46 and your calls would expire worthless, and you make $400 for holding the stock.
HOWEVER , if let's say Sirius goes on a "ladder climb" and jumps 20% in 3-4 months and ends up at $2.55, let's see how it looks financially for you below if you liquidate your position:
5,000 Shares at $2.10 each
Cost Basis of $10,500
$400 from selling coverd calls
$10,000 from 4000 shares called off
Sell 1,000 shares @ $2.55 = $2,550
Total $12,950 about a 23% ROI IN less than 4 months
If you just held the shares and did nothing for the four months and sold them when it hit $2.55 you would have had $12,750 (Less than the option play!)
Again this is a concept you need to use when bullish on a stock that trades relatively flat (as Sirius does). In my next article, I will explain some concepts on how to also "hedge" on if you are very bullish on a stock and feel it may jump astronomically.
Disclosure: I am long SIRI.