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REHeakins
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Private Wealth Manager / Securities Expert / Co-host of "Investing and Your Legal Rights" heard monthly on www.KQV.com. Over 33 years in the investment industry, first working at PaineWebber for almost 20 years which included 3 years as a branch manager. Currently have a CRCP... More
My company:
OakTree Investment Advisors
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Covered Call Focus
  • Buying Berkshire Hathaway Inc. And Selling A Covered Call  0 comments
    Mar 31, 2014 11:11 AM | about stocks: BRK.B

    03/31/14 Covered Call Pick: Berkshire Hathaway Inc. (BRKB)

    Berkshire Hathaway is an American multinational conglomerate holding company that oversees a number of subsidiaries that are involved and engaged in insurance, food service operations, energy distribution, manufacturing, and finance. Particularly known for Chairman, President, and CEO Warren Buffett, recognized as one of the most successful investors in the world, the company has produced a total return of 76% between 2000 and 2010, as opposed to the -11.3% produced by the S&P 500 over the same period, and has outperformed the S&P by an average of 25% during down years since 1965.

    BRKB has a market capitalization of $145.66 billion with 1.2 billion outstanding shares.

    BRKB currently pays no dividend.

    With a beta of 1.07, BRKB currently trades with approximately 7% more volatility than the current market.

    Our first Covered Call on Berkshire was way back in November of 2012, were we recommended a long-term out-of-the-money Call on Berkshire to generate income on a stock that represents some of the best management of any holding company on the planet. That strategy got called away in January netting us a 6.70% If-Called Return over the 417 days the strategy played out. While the stock rode the 2013 market higher, it has been consolidating since last June, and just recently broke out from its previous $119.30 high and entered a new buy phase.

    If you were crunching the numbers, you will see that if we had just bought BRKB without selling the Call, we would have made more money than we would have than using our Covered Call Strategy. But let's be clear here, the purpose of that strategy was to create income in a relatively low-risk equity position for people that require it. While Berkshire can be argued to be one of the best holdings one can have on the planet, and is headed by one of the most - if not the most - prolific investor the markets have seen, you do not buy Berkshire for explosive growth. While Mr. Buffett is obviously concerned about the growth of his company, his investment mindset is not a short-term one, but rather is quite far-seeing. The run the markets had in 2013 was spectacular, but is not "normal" for bull markets when related to the economic data we are seeing. Now that is all fine, as we are not concerned about the sky falling around us, but even so far this year we can see the increased volatility in the markets. 2014 is not another 2013, and while we still believe the market will be up by the end of the year, it always pays to be cautious and take the small profit instead of reaching for the larger one and getting burned.

    Investors' Business Daily classifies the current market as entering a correction phase due to the number of distribution days the market has seen. While we can't quantify how serious a correction this (though we expect at least one more serious correction by the end of the year) we are going to look for a slightly out-of-the-money Call. While on some stocks we would normally sell an in-the-money Call if we thought a correction was imminent, it is really hard to do that with a company like BRKB which is managed so well, has such a great, long-standing track record against the market, and has the near-term technicals to support a bullish move in the stock. Like we said though, it pays to be cautious and take some money off the table by getting a larger premium with a closer strike price for a conservative equity position in a stock that has a stellar track record in tough market conditions. That is why we are recommending buying BRKB and selling the September 2014 $125 Call.

    Scenario:

     

    • Buy 100 shares of BRKB @ $124.47 = $12,447 + Commission ($12.95) = $12,459.95
    • Write 1 BRKB September 2014 $125 Call @ $450 - Commission ($8.70) = $411.30

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


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

    (4.11)/124.60 X (365)/173

    = 6.96% Static Return


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

    (4.11 + 125 - 124.60)/124.60 X (365)/173

    = 7.64% 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 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 3/31/2014 9:55 AM
    Categories: Weekly Picks

    Previous Post

    Disclosure: I am long BRK.B.

    Additional disclosure: As active managers (OakTree Investmetent Advisors) may increase or decrease our position in BRKB as markets dictate.

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