Covered Call Candidates: Citigroup, Bear Stearns, Harley Davidson

The next few days should be favorable for the markets from a seasonality perspective, since it is both an end of month period and a pre-holiday period. But after this week is over, we may see some market weakness if second quarter earnings announcements are disappointing.

In this week's Ticker Sense blogger poll, I gave a neutral forecast the next 30 days, since I expect a choppy market for awhile.

The VIX implied volatility has climbed over 16, so I've started to look for some depressed stocks that are covered call candidates. I try to minimize trading costs by writing longer term out-of-the money leaps against my long position. If things go well, the option will expire worthless and I only have to pay one option commission.

1) Citigroup (C)- I have a large longer term position in Citigroup, since I used to work there and still have stock acquired at a low cost basis. I'm moderately bullish on Citigroup, but I do not see a huge upside. Because of the 4% dividend, writing out-of-the-money leaps seems like a pretty good way to supplement the return. Late last year, I wrote some Jan. 2008 call leaps with a strike price of 60. At the time, the leaps sold for $1.90, but they have now fallen to $0.50 as the time value has shrunk. If these leaps drop any lower, I am considering buying them back and writing the Jan. 2009 leaps instead- either with a 60 or 65 strike price.

2) Bear Stearns (BSC)- This stock looks pretty cheap now, and I think any losses they will have on saving their troubled hedge funds will be minimal. I would look to go long BSC below 140, and then write some covered calls if the stock rose a few points. The Jan 2009 call leaps with a 160 strike price look reasonable.

3) Harley Davidson (HOG)- Harley Davidson rose recently on takeover rumors, but then dropped sharply when the rumors were denied. The stock is cheap now, but the immediate upside seems somewhat limited. Writing covered calls may be a good strategy.

Harley yields 1.70%, but they have tremendous cash flows coming in and will almost certainly raise the dividend over the next year and a half. A buy-write going long Harley under 60 and selling short the Jan. 2009 call leaps with a 70 strike price seems like a reasonable play here. Many of the standard option models are probably not taking the future dividend boosts into account, which leads to an over-valuation of the longer term call prices.

Full disclosure: I am long Citigroup and short Citigroup leaps.

C, BSC, HOG 1-yr chart: