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Buy EQT Corp. And Sell A Call Option

|Includes:EQT Corporation (EQT)

01/27/14 Covered Call Pick: Revisiting EQT Corporation

You can find our first article on EQT here.

EQT Corp is a natural gas and oil company engaged in the exploration, production, and distribution of natural gas and oil to wholesale and retail customers in the United States. Headquartered in Pittsburgh, Pennsylvania, EQT Corp is one of the largest natural gas producers in the Appalachian Basin, employing over 1,800 people and using integrated and horizontal drilling technology for more than 125 years in its operations in Pennsylvania, West Virginia, Virginia, and Kentucky.

EQT has a market capitalization of $13.67 billion with 150.7 million outstanding shares.

EQT currently pays a $0.03 quarterly dividend for a current yield of 0.1%.

With a beta of 1.17, EQT currently trades with approximately 17% more volatility than the current market.

Back at the end of October we first recommended a buy in EQT based off of the company's execution, the stock's performance, and the support it was seeing from institutional funds. Our first strategy on EQT is still live, with the Call expiring in March with a strike price of $90. The stock is currently sitting at $90.70, but with two months left in the strategy, there's no real way for us to tell how it will turn out.

But we have a guess.

Earlier this month natural gas prices shot above $5 for the first time in three years. As the Polar Vortex rolled in and froze much of the United States with below freezing winds, the amount of gas required to keep the average household warm continued to rise as the temperature outside dropped. On January 17th, natural gas stockpiles were recorded at 13% below the five-year average for this time of the year, due to the frigid temperatures, and caused natural gas futures to shoot up by 9.6%. The cold weather is not supposed to be over for the season either as heavy snowfall continued to rain down over the Northeast this past weekend, and temperatures are supposed to drop to subzero once again this week. Declining stockpiles increases demand in an industry that has seen an over saturation restraining supplier profits for years. As a large player in the Appalachian basin, EQT could see even higher profits from prolonged or greater than regular decline in natural gas stockpiles.

EQT is also considered a "Strong and Under the Radar" candidate. This is a loose classification of stocks that technical traders recognize with certain behavioral patterns. The stocks are usually of worthwhile companies but rarely make front-page news and are not full "household" names. What happens with these stocks is that they trade sideways in a consolidation pattern as the investors "in the know" start accumulating shares of the stock. Then, when the majority of investors figure out that this stock has merit and has been seeing support from strong institutional investors, the stock price rockets upwards as everyone jumps in on the name at once. EQT is classified by many as this type of stock, and has recently been in a consolidation pattern for the past 18 weeks, bouncing between $80.77 support level and a $94.97 resistance level. Breaking out through the resistance level would be a strong signal of increasing momentum.

While we are recommending EQT again in this article, we are not advocating closing out our previous strategy. We also want to remind investors that all of our recommendations must be analyzed on a personal investment level, and that it is important to have a well-diversified portfolio first and foremost.

For a Covered Call Strategy on EQT, we want to take advantage of the firm's execution, demand drivers, and the technical behavior of the stock, so we want an out-of-the-money Call. Supply and demand factors can take three to six months to be fully realized in the stock price, so we want to have our strategy stretch about that far out. Unfortunately, there are not a lot of choices in terms of strike prices for EQT's options. So we are going to pick the one that is the first outside the resistance level of the stock, rather than picking a one that is further out of the money with a less than attractive premium. That is why we are recommending buying EQT and selling the June 2014 $95 Call.

Scenario:
 

  • Buy 100 shares of EQT @ $90.15 = $9,015 + Commission ($12.95) = $9,027.95
  • Write 1 EQT June 2014 $95 Call @ $380 - Commission ($8.70) = $371.30

Note: Prices may vary from the time of post. Actual commissions paid will vary returns.


Static Return (Not Called):
(Call + Dividend)/Stock Price X (Days/Year)/Days to Expiration

(3.71 + (2*0.03))/90.28 X (365)/144

= 10.58% Static Return


If-Called Return:
(Call + Dividend + Strike Price - Stock Price)/Stock Price X (Days/Year)/Days to Expiration

(3.71 + (2*0.03) + 95 - 90.28)/90.28 X (365)/144

= 23.84% If-Called Return


Disclosure: Clients and/or principles of OakTree Investment Advisors may or will have an investment in the above positions, but only on the same sides of the trades. The above numbers are analytic estimations based on information known at the time of this post. OakTree Investment Advisors does not guarantee the above, or any, result. All investment decisions should be made based upon individual's personal investment goals and risk tolerance.

Posted by OaktreeAdvisors at 1/27/2014 11:01 AM
Categories: Weekly Picks

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Disclosure: I am long EQT, .

Additional disclosure: As active portfolio managers we may add to or sell existing positions in EQT

Stocks: EQT