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Tom Armistead
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I am a retired accountant, having spent the early years of my career in the insurance industry and the later part in the field of accounting. My insurance experience has given me the willingness to accept investment risk if I feel the return justifies it; also, an interest in applying risk... More
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  • Olin: At 4 Years, My Longest Running Option Trade 2 comments
    Jan 5, 2012 9:51 PM | about stocks: OLN, MMM, CB

    As I was going over my January expirations, I noticed that my Olin (NYSE:OLN) LEAPS trade has been going for almost 4 years. Options are usually a short term proposition, trying to catch a sudden move on earnings, good news, or rumors. But it's possible to keep a trade going indefinitely, and it can produce consistent profits. Here are the trades:

    Basically, the trade involves using LEAPS as a substitute for share ownership, and selling covered calls against the position.

    If shares remain unchanged as of the January 21 expiration, the position will have an annualized rate of return of 33%, with the position value roughly equal to the profits. Not shown, commissions total $775.18, or 5.85% of the profits.

    While I did take profits from time to time, I held all the way through the financial crisis, rolling down and then up, and selling covered calls whenever the premiums available looked attractive.

    For the past year, the position has been relatively stable, long the 12.5 strike and short mostly the 22.5 strike. Volatility is not that high, and returns are only about 20% for the static case. It works primarily because the LEAPS are so cheap. Between the dividend and the low volatilty, the time value for the deep in the money calls is very reasonable, so most of the income that can be realized by selling covered calls is profit. 

    Taxes are a chore. The income from selling covered calls that expire worthless is taxed as ordinary income, while any losses incurred while rolling the long calls are deferred as wash sale adjustments until the trade is actually closed. I use TradeLog software which does a good job tracking wash sales, and it can download trades from my brokerage account, so there is very little data entry. 

    By way of comparison, buying and holding the shares would have returned 6.9% annualized. As a practical matter, the options strategy requires a definite amount of work, to track market movements and adjust the position as things change.

    I have a number of other trades that have been running for over two years, and the ones that have reliably generated profits are low beta dividend payers, such as 3M (NYSE:MMM) and Chubb (NYSE:CB). Higher beta stocks, such as life insurers MetLife (NYSE:MET) and Prudential (NYSE:PRU) have been extremely profitable at times, but a lot of those profits evaporated during the debt ceiling debate and the ongoing Eurozone crisis.

    Stocks: OLN, MMM, CB
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  • oocorreo
    , contributor
    Comments (42) | Send Message
    Tom, What a really good job you have done with the leaps and covered calls. I glanced your worksheet and it looks like you kept a good eye on these trades. I must say, for me to do something like these seems like a lot of work. What about instead we trade vertical spreads on the Leaps and let them get to expiration. If you pick them right, you can get as good results or better without too much trading.
    20 Jan 2012, 04:05 AM Reply Like
  • Tom Armistead
    , contributor
    Comments (6299) | Send Message
    Author’s reply » oocorreo,


    Good point. I've done some vertical LEAPS spreads, they require a lot less attention and can frequently be done in a way that is time neutral so any increase in the share price will be a profit.


    Time decay is more rapid for shorter term options. There is usually a combination of a deep in the money LEAPS and a covered call with a 3 to 6 month expiration that will set the time value of the LEAPS equal to the time value of the call sold. By rolling the covered call as it expires, premiums can be collected that can be viewed as interest on the underlying LEAPS investment.


    So using LEAPS for a vertical call spread the investor collects less premium from his counterparties and is more dependent on share price appreciation for a profit. Selling the shorter term calls, the premium income is greater and in some cases the investor can afford to be fundamentally indifferent as to whether the stock ever goes up. It's just about collecting the premium for selling calls.


    For me the soft point is if the call sold goes into the money I sometimes get involved in a game of trying to capture the additional upside, sort of resent giving my counterparty such a good bargain and forget that I've made pretty good money. This can lead to short term bets on market direction as opposed to long term bets on market level, and will run up trading costs. It's fun if you guess right.


    Logically it should be profitable and and not too much work to do vertical LEAPS spreads as you suggest at market bottoms when volatility will be high.
    20 Jan 2012, 06:40 AM Reply Like
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