For those of you who enjoy using options to replicate stock gains, using the deep in the money strategy has been a profitable strategy for me this year. This strategy can be used for a variety of reasons, but one of the main reasons I use this strategy is to risk less to make more. If you don't want to own shares, this strategy can be used as a stock replacement strategy and can help investors achieve profit without shelling out thousands of dollars for shares of stock.
When trading options, you will have to be content with not getting a dividend, unless you own shares. I tend to focus on stocks that I would want to own, but enjoy taking short-term profits on a small percentage gain in the stock. For example, if you invest $6,000 in AT&T (T) and get a 0.50% gain would you cash out? My guess is probably not and that you might wait for the dividend. But, if you followed my last article "Revisiting The AT&T call option trade" the option price (at the time the trade was recommended) was trading for $2.17 per May 29 2012 contract. Currently, that contract is going for $2.52 (as I write this article). This equates to a gain of $35 per contract bought; a little more than a 1% movement in the stock or a 15% gain per options contract. However you want to slice and dice it, this strategy can be profitable for newer or seasoned investors. For more additional information on how I use this strategy please check out my previous article here and here.
General Electric (GE) and AT&T (T) have been two stocks that this strategy has been successful at many times and each riding the next leg higher only needing to achieve a small break even in order to profit. In this article here are two more stocks that I will be looking at buying deep in the money/ in the money calls and how you can profit if you still believe there is more upside to continue.
Trade Idea #1 Altria (MO)
Altria can be seen as a defensive play until the price of cigarettes becomes unaffordable. Altria has also diversified itself over the years, participating in the wine and financial services industry. Even with all the negative commercials on the dangers of smoking, smokers keep lighting them up. If the consumer continues to have an income that allows them to consume discretionary products (tobacco and alcohol), then Altria will continue to profit for the long run. Altria's earnings have increased over the past five quarters and its next earnings date is on April 20, 2012. On January 27, 2012 Altria reported 4Q earnings of 0.50, which met consensus. Altria's FY 2011 earnings were 2.05 and Altria is looking at 2.20 for 2012. Altria's estimates for FY 2013 and FY2014 are continuing to increase versus previous years. Altria also has an attractive dividend at $1.64 or 5.34% and the next dividend will be paid on April 10, 2012. With improving discretionary spending and, dividend payout/earnings not coming up until April, I believe there is still some more upside to Altria and here's an option play to capitalize of further upside movement in the stock.
Trade Idea: Buy MO June 16 2012 $28 call for $2.36 or $2.36 x 100 = $236
Break even = $28 + $2.36 = $30.36 ($30.36 - current stock price $30.00 = 0.36 or a little over 1% gain)
I generally like to play Altria as we get closer to earnings, but want to give myself enough time for the trade to become profitable. I would not use this as a trade for an earnings trade since you are only betting on one direction in the stock and I just want to play a possible move higher as we head toward earnings. When looking at the technicals of Altria, the $30 level could provide a nice level to buy at, if Altria has a pullback. Altria has bounced higher off this level a couple of times and with some good timing, investors could profit off a small movement in the stock.
Trade Idea # 2: Buy Wal-Mart (WMT) June 16 2012 $57.50 Call
Wal-Mart is a member of the Dow 30 and the largest retailer in terms of sales in the United States. Wal-Mart can sometimes be looked at as a proxy for the economy since it is a one stop shop for most of your needs. While Wal-Mart is the biggest retailer, it also faces stiff competition from dollar stores and e-commerce. The year 2011 was a great year for Dollar General (DG) and Family Dollar (FDO). In 2011, both Dollar General and Family Dollar outperformed Wal-Mart, but if you believe that Wal-Mart is a play on improving economic conditions, Wal-Mart could be poised to head higher. I believe Wal-Mart will play catch up on improving discretionary income and the same people who left Wal-Mart for the dollar stores will return to Wal-Mart. Even though gas prices are high in most areas of the United States, Wal-Mart will continue to find ways to adapt to growing consumer needs.
From a fundamental point of view, Wal-Mart improved earnings per share by 7.1% in the recent quarter and earnings per share/revenue will continue to grow through 2014. When looking at a long-term chart of Wal-Mart, investors will notice that the stock has struggled with the $60 level. With the stock at $60.74 there is still some small room left for $62. On March 13, 2012 Wal-Mart the June $57.50 calls were up 18.18% or about $60 per contract. If one bought shares you would also make close to a $60 dollar gain per 100 shares, but with this strategy I would be risking $3.85 or ($3.85 x 100 = $385 per contract) compared to $5,882 per 100 shares. I am going to wait for a small pullback in Wal-Mart and would rather wait for the June $57.50 option call contracts to come down in terms of price, before I start listing trade details below.
I believe Wal-Mart can retest the $62 level before its next earnings report on May 17, 2012. As always, please do your homework and spend time researching Wal-Mart before you decide if this trade is for you. Thank you for reading and Good Luck.