Playing Apple Earnings With A Covered Call

| About: Apple Inc. (AAPL)

Apple (NASDAQ:AAPL) will report earnings on Tuesday, April 24th, during market hours. The implied volatility of Apple options is at a very high level. One way to take advantage of the high implied volatility is to use a covered call strategy. A covered call strategy for Apple earnings does a couple of things: It takes advantage of the present high implied volatility and consequent elevated option pricing. It gives the investor some limited downside protection in case Apple misses and the stock sells off. The trade also allows for upside price movement and has good profit potential on the upside, even though it is limited to the strike price selected plus the premium received for writing the call option.

The option that I have evaluated is the May $610 call. The selection of this strike call gives the investor some upside potential in the underlying, has sufficient premium for downside protection and has a positive expected return. With Apple currently at $600.46 as of this writing, the May $610 call is bid at $25.70. If you were to buy 200 shares of Apple at $600.46 and sell two of the May $610 calls, you'd receive $5,140 in premium. Your downside breakeven would be at a stock price of $574.76, in the event that the earnings disappoint and the stock sells off. Your upside profit would be capped at $610 + $25.70 = $635.70, which would be for a maximum profit of $7,048. The percent return, if called, would be 5.87% in 30 days.

This trade has an expected profit of $1,061, which means that the probability of success is in your favor, due to the high option premiums. For option traders it is critical to calculate the expected return of any strategy and reject strategies that have a negative expectancy. The implied volatility of the May $610 call is 44.75%, which is elevated due to the pending earnings release, and makes this option attractive. The chart below is a daily chart of Apple stock and shows the implied volatility of all the options, which is currently at 42.80% compared to a 20-day moving average of 32.95%. The other indicator shows the ratio of the implied volatility to the statistical volatility, which is currently at 141.36. It is easy to see from the chart that both of these are at high levels.

I don't know what will happen to the price of Apple after the earnings announcement, but it is a very good assumption that the implied volatility and, accordingly, the prices of these options will come down.

Click to enlarge image.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.