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FROM INSIDE SILICON VALLEY: Sorting the truth or likely truth from the noise is a key attribute of the successful investor. My commentary is a distillation of some of this effort relative to particular stocks and investment areas. My publishing at this point in time is limited to the blogsphere,... More
  • LEVERAGED APPLE STOCK PURCHASE: THE TRADEOFFS BETWEEN 2013 AND 2014 LEAPS 0 comments
    Sep 27, 2011 12:49 PM | about stocks: AAPL
    Robert McDonaldSeptember 27 at 9:45am
    I will do a more complete article later that ideally will become a normal SA article:

    Purchase of 2013 LEAPS:

    PROS: 

    1. Lower initial cost - an at the money LEAP is approximately 20% of the share price
    2. A 1 year hold enables taxation at long term capital gain rate
    3. If the stock valuation goes up by $10, the return on the LEAP is about 7% whereas the return on the stock is 2.5%. If the LEAP goes deep into the money the LEAP begins to track the increase in stock valuation directly, in other words an increase in stock valuation by $1 yields a similar close to $1 increase in the value of the LEAP
    4. If the stock value goes to zero, the maximum you can loose is 20% of the stock share price that you paid.
    5. You can exercise the LEAP at any time and hold the stock. you can lock in ownership of the stock at a lower price than what it may be worth in the future
    6. You can sell the LEAP at market price without exercising it at any time up to and including the expiration day.

    CONS:

    1. If something drives the stock price down there is less time to recover the potential value of the LEAP vs. a 2014 expiration.
    2. The time value of the LEAP, the amount paid at purchase for an at the money LEAP burns off and goes to zero by the time of LEAP expiration.
    3. The valuation of the LEAP will go to zero by expiration day if there is no increase or a decrease in stock price

    Purchase of 2014 VS. 2013 LEAPs:

    PROS:

    1. You have an additional year for valuation growth which can be very valuable with a growth/value stock like Apple
    2. You have an extra year to recover the valuation of the LEAP if the stock goes down in value but then recovers.

    CONS:

    1. The price of the the at the money 2014 LEAP is approximately 25% of the stock valuation vs. 20%.
    2. This higher time value will burn off over the longer time period but go to zero just like for the 2013 LEAP.

    One of the problems associated with Apple LEAPs in general is that their expiration is a couple of days after the Q1 earnings report day, and Q1 usually the best quarter of the year. It is dangerous to hold the LEAP's up until there is only a few day window for exercise. This is in effect like holding a very short term option. I like to sell my LEAPs at least several months before expiration to lock in their value.

    Apple stock valuation has gone flat from February through June for the last two years. I would watch to see if this pattern repeats in 2013 as an opportunity to add to Apple positions at a discount.

    My advice is to hold Apple options in a ladder fashion -- for example I currently hold 2013 and 2014 LEAP's. I have been taking profits in my 2012 LEAPs over the last year, most of which had become long term gains.. I used my profits to buy an equivalent amount of 2013 and 2014 LEAPs and take some money off the table. I also am holding the April 2012 options as I expect one of the best ever earnings reports in January (Q1 quarter). Holding the April options will give me a larger window to benefit from that report without holding the 2012's which would have expired a few days after the report. I do not normally use regular options due to the short holding periods due to the dangers involved and the lack of long term gain conversion but in this case I think it is a reasonable risk to take.
     
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