Brendan Harper's  Instablog

Brendan Harper
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  • Leveraged ETFs and covered calls 0 comments
    Jun 6, 2009 3:02 PM | about stocks: FAS, TMV

    Last week I recommended TMV (3x shorting treasuries ETF) when it closed at $80.90, and I had purchased some shares at this price in my IRA. Well, in just one week, TMV jumped nearly 15% and closed at $92.62 on Friday, June 5th. While I have been tempted to just take my profits, this fund has a long way to go. Interest rates and Inflation will both rise in the coming years, and the gains should continue to mount.

    Now, for another strategy that I have been implementing which has worked well involves the very popular ETF FAS. It is a 3x leveraged financial companies etf. Because of the past years volatility of financials, option prices for FAS are very high. For a good example, I will use a position I have in my account. FAS closed Friday at $10.29 and Calls for October @ $10 are trading for $2.90. For those who aren't very familar with options, selling this call would be selling the right for the buyer to buy 100 shares of FAS for $10 each share in October and the income I would receive for selling this option would be $290. A great way to play this is to buy FAS and then sell the covered calls for October with a strike price of $10. If by October, FAS stays above $10, the shares will be taken from you and you received the $10 a share for a total of $1000. You obviously keep the $290 for selling the option and have a gain of over a 25% in just 4 months. If FAS falls below $10, you still own the same shares plus you have received the equivalent of a 25% dividend for selling the calls and can then sell more covered calls against it.

    To make it a little clearer, lets say we buy 1000 shares of FAS at $10.29 for a total of $10,290, and then we sold 10 calls at $2.90, we would receive $2,900. Therefore, our total cost to have this position would only be $7390. If FAS is above $10 until October, our options would be assigned and we would receive $10,000 for a total profit of $2710, or 26.3%.

    Now, lets say FAS loses over 20% and falls all the way to $8 a share, we would still have turned a profit of just below 7% which is a solid return for a 4 month period.

    As with TMV, I will continue to monitor the performance of this recommendation and show how this works out.

    Stocks: FAS, TMV
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