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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
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OakTree Investment Advisors
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Covered Call Focus
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  • Buy AbbVie Inc. (ABBV) And Sell A Covered Call

    06/16/14 Covered Call Pick: AbbVie Inc (NYSE:ABBV)

    AbbVie Inc (ABBV) is a research-based pharmaceutical company that develops pharmaceutical and biologic treatments for Rheumatoid Arthritis, Psoriasis, Crohn's Disease, and a number of other debilitating diseases and conditions. AbbVie was formed on January 1, 2013 when parent company Abbott Laboratories (NYSE:ABT) split into a medical devices company (Abbott) and a pharmaceutical research company (AbbVie). AbbVie is most known for their blockbuster drug Rheumatoid Arthritis drug, Humira.

    AbbVie has a market capitalization of $86.12 billion with 1.59 billion outstanding shares.

    AbbVie currently pays a $0.42 quarterly dividend for a current yield of 3.1%.

    With a beta of 1.36, ABBV currently trades with approximately 36% more volatility than the current market.

    We have mentioned ABBV's progenitor, ABT, on this blog before, but since the research-based pharma company was formed at the beginning of 2013, we have yet to examine the stock in this forum. So let's dive into this under-appreciated pharmaceutical company.

    You can't talk about ABBV without talking about Humira. Without getting to technical, Humira is an immunological drug that helps prevent one's own immune system from attacking their own body. An overstimulated and unnecessary immune response is the basis for conditions like arthritis, Crohn's disease, ulcerative colitis, and psoriasis. These conditions are extremely prevalent in the global population, and treatment with Humira is one of the best ways the populace currently has with dealing with these conditions. So much so, that Humira's sales account for over 50% of ABBV's total sales, and has experienced strong Humira sales growth since its creations in 1993. In the past first quarter, Humira sales were up 18% y/y, and Morningstar's analysts expect Humira's efficacy and relatively clean side-effect profile will drive a 10% three-year CAGR for the drug. Well positioned to drive the company's performance over the next five years, Humira's approval for a wide variety of immunological conditions means that many markets for the drug remain under-penetrated, leaving room for continuing sales growth.

    All of this sounds great: the major driver of sales for the company is a huge drug that has wide application, huge demand, and a history of double-digit sales growth that is projected to continue. What's the downside? Well, when you have one product that accounts for over 50% of your sales, that strength is also your weakness. AbbVie loses its Humira patent in the U.S. in late-2016, and in Europe in 2018. This leaves the company open to generic competition, which can be devastating since it currently relies on the sales of Humira for so much of its revenue. The competition isn't waiting for patent expiration though - Pfizer's new Rheumatoid Arthritis drug, Xeljanz, is a new competitor in the same space as Humira, and is easier to take due to its oral administration as opposed to Humira's twice-monthly injections. Humira is a biosimilar, which means it is made or derived from a living organism. For laymen, this means it is incredibly complicated to develop, which should help stave off some competition. But pharmaceutical companies are incredibly brilliant nowadays, and even the complexities of creating and launching a biosimilar will not hold off other companies from taking a piece of ABBV's pie.

    While competition to Humira is a concern, ABBV is preparing for the inevitable. The company is now much more focused as a research pharmaceutical company. This allows it use the large cash flows generated by Humira and other drugs to create an economy of scale that enables funding for new drugs. The average cost for developing a new drug is $800 million, which is no small chunk of change. By being able to focus so much on R&D, ABBV is able to prepare for the inevitable patent-expirations that every pharmaceutical company must contend with. The leading runner in ABBV's pipeline is its new hepatitis C treatment, which recently received FDA priority review to speed up the approval process. This means the treatment could be on the market as early as late 2014, and consensus believes it will be in the market by mid-2015 at the latest. The treatment is expected to post just over $600 million in 2015, with peak potential of over $3 billion in annual sales. ABBV also just announced positive Phase 3 trials along with its partner, Biogen Inc, in their new treatment for multiple sclerosis (NYSE:MS).

    For a Covered Call Strategy we are recommending the November $57.50 strike price. The stock currently came off a resistance level around $55, and may take a pause before testing that level again. This strike price and duration gives us the appropriate premium we want to boost the income provided by the strong dividend the stock boasts, while giving us some upside if the stock busts through that resistance level. We also are keeping the strike price inside 2014. With a possible release of the hep-C treatment later this year, we can keep an eye on how ABBV is proceeding with its pipeline development. That is why we are recommending buying ABBV and selling the November $57.50 out-of-the-money Call.

    Scenario:

     

    • Buy 100 shares of ABBV @ $54.00 = $5,400 + Commission ($12.95) = $5,412.95
    • Write 1 ABBV November 2014 $57.50 Call @ $140 - Commission ($8.70) = $131.30

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


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

    (1.31 + 2*(0.42))/54.13 X (365)/159

    = 9.12% Static Return


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

    (1.31 + 2*(0.42) + 57.50 - 54.13)/54.13 X (365)/159

    = 23.41% 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 6/16/2014 11:11 AM
    Categories: Weekly Picks

    Previous Post

    Disclosure: The author is long ABBV.

    Additional disclosure: As active managers we may increase or decrease positions as markets dictate.

    Jun 16 12:22 PM | Link | Comment!
  • Go Long Honeywell (HON) And Sell A Covered Call For Additional Income

    06/02/14 Covered Call Pick: Honeywell International Inc. (NYSE:HON)

    Honeywell Intl Inc. (HON) is an American multinational conglomerate that provides automotive and aerospace products, security technologies, specialty materials, and engine systems to a wide variety of customers including private, corporate, and governments. With over 132,000 employees worldwide, some of the company's more well-known products include its line of rounded home thermostats, and Garrett turbochargers.

    Honeywell has a market capitalization of $72.95 billion with 783.1 million outstanding shares.

    Honeywell currently pays a quarterly dividend of $0.45 for a current yield of 1.93%.

    With a beta of 1.32, HON currently trades with approximately 32% more volatility than the current market.

    Honeywell is not a stranger to this blog, with our last recommendation on the stock coming in last year in May. The company has a strong diversified business and has been becoming increasingly more efficient in their operations over the last several years as management has fallen into swing of the plan for increased productivity improvement through restructuring and the firm wide implementation of the Honeywell Operating System, a production model that helps standardize processes across the firm to allow for quick, efficient operation of business. This has help led to a positive Q1 report this past April.

    On April 17th, the company reported an EPS of $1.28 with a revenue of $9.68 billion. This translates to a GAAP EPS growth of 7% over the prior year, with revenue up 3.8%. These numbers are, in part, a result of Honeywell's diversified product line. While weakness in the aerospace business, resulting a 2% decline over the prior year, threatened to constrain the company's quarterly growth, strength in the automation and controls segments more than made up for the aerospace decline. A resurgence in the company's turbocharger business saw a 9% revenue growth over the prior year, spearheading this quarter's growth. HON exists in a very cyclical industry, as many of their end markets are tied closely to the global economy. Yet by making sure the firm diversifies across both their products and their geographies, HON is able to lessen the fluctuations on revenue caused by the business cycle.

    As we mentioned above, HON has been becoming increasingly more efficient over the past several years, and that has been one of the main drivers for the firms success over that time. One of the largest criticisms over the past couple years when it comes to a company's quarterly reports, is that growth and earnings has stemmed from an increase in efficiency, and not from organic growth - the true growth of the core of a company outside of takeovers, acquisitions, mergers, etc. While there is something to be said about companies that are just focused on increasing efficiency rather than attempting to expand their operations through increasing output and sales, what we see in HON is an intelligent and efficient plan the company has been putting into place that allows them to be strategically ready for the future.

    In the firm's aerospace division, HON has focused solely on business and regional jet aircraft, allowing GE and UTX to fight over wide-body and narrow-body aircraft orders. They also continue to invest in products outside the aircraft, with a focus on next-generation air traffic control systems. With a spotlight shined on the poor aviation infrastructure in the United States, this helps position the company to be a go-to for upgraded systems after the FAA approves its use. Honeywell has also used its strong position in heating and cooling controls to build a strong base in the automation business. They have also created growing strength in the specialty materials market by developing products to help heavy energy users become more energy efficient - an important factor as energy requirement and costs rise. Most importantly, management developed a solid plan, and has stuck to it. This may seem like a simple thing, but being able to properly position a company to take advantage of global trends, while also ensuring that the company continues transforms into the best version of itself is no small task, and one that many less experienced companies flounder with at the first sign of turbulence.

    We have a bullish outlook on HON moving forward, and we're not the only ones. Morningstar analysts raised their fair value price estimate to $105 from $90 back in March, and reaffirmed that number upon the firm's Q1 report and forward guidance this April. More recently, Oppenheimer analysts raised their price target to $110 from $103 this past week with a rating of "Outperform". This follows raises of price targets at firms like Argus and Cohen & Company over the past two months, giving the stock an average rating of "Buy" and a consensus price target of $96.72.

    The stock is currently trading at just near $93, and has been in a technical consolidation range between $90 and $96. For a Covered Call Strategy on the stock, we are looking at the December 2014 $97.50 out-of-the-money Call. This strike price is just over the consensus price target of the averages, and outside the technical resistance level of $96 we see on the stock's graph. While we are making a bullish Call on HON, volatile and uncertain market and economic conditions moving forward into the summer leads us to reap a higher premium now rather than stretch our upside goals. The best case scenario is that the stock trades inside its consolidation range of $90-$96 and our Call expires while we pick up the premium for free. If the stock breaks out to the upside, we receive a nice yield for our time, and will look for a pause in the stock's run to get back in. If the stock breaks out to the downside due to a turn in the global economy or a broad market pullback, we can be sure of our position in a strong, diversified company that will bounce back to its previous levels of profitability over time. That is why we are recommending buying HON and selling the December 2014 $97.50 out-of-the-money Call.

    Scenario:

     

    • Buy 100 shares of HON @ $92.95 = $9,295 + Commission ($12.95) = $9,307.95
    • Write 1 HON December 2014 $97.50 Call @ $224 - Commission ($8.70) = $215.30

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


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

    (2.15 + 2*(0.45))/93.08 X (365)/201

    = 5.95% Static Return


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

    (2.15 + 2*(0.45) + 97.50 - 93.08)/93.08 X (365)/201

    = 14.57% 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 6/2/2014 10:30 AM
    Categories: Weekly Picks

    Previous Post

    Disclosure: I am long HON.

    Additional disclosure: As active managers we may sell or buy additional shares as suitable.

    Jun 02 2:24 PM | Link | Comment!
  • Buy Chemical Co. Celanese (CE) And Hedge With A Covered Call

    05/05/14 Covered Call Pick: Celanese Corp (NYSE:CE)

    Celanese Corp (CE) is a global technology and special materials company specializing in the chemical manufacturing of acetyl products and high performance polymers. Celanese is the leading producer of acetyl compounds, a class of compound that is a widely used immediate reagent for manufacturing across a wide variety of industries. One of these compounds, vinyl acetate monomer (VAM), is used in the production of polyvinyl acetate, a type of thermoplastic that is used in thousands of products mainly as an adhesive. Celanese's 7,600 employees produce integral chemical compounds such as this for applications and manufacturing around the world.

    Celanese Corp has a market capitalization of $9.60 billion with 156.9 million outstanding shares.

    Celanese currently pays a $0.25 quarterly dividend, for a current yield of 1.6%.

    With a beta of 1.15, CE currently trades with approximately 15% greater volatility than the current market.

    According to Investor's Business Daily, the market is currently in a correction phase. This is mainly due to the volume, magnitude, and manner of distribution days the market has seen over the past several weeks. This may come as a shock to many who have been looking at the, albeit choppy and volatile, market that keeps testing new highs. But the stats do not lie, and when momentum peters out it usually means a downtrend will follow. That said, it might be interesting we are recommending Celanese. The company is in a cyclical industry (with chemicals being linked to manufacturing, which is closely tied to movements in the business cycle) and has a beta greater than one, showing greater volatility than the broader market. Conventional knowledge would be to invest in safer stocks with low beta and less cyclicality, and that is not a wrong assessment. But during choppy market conditions like this where we are "technically" in a correction, but the market signals are less than clear, using Covered Call Strategies is a great way to invest in the market while reducing your risk.

    While considerably more risky than a stock like JNJ or PG, Celanese does have quite a few things going for it. The company recently reported Q1 2014 results last month with adjusted EPS up 16.7% y/y, profit from continuing operations up 42% y/y, and sales up 6.2% y/y - all results beating street expectations. The company also just recently raised its dividend by 39%, demonstrating a commitment to return value to shareholders from the strong cash flow generated by the company. The company trades at a P/E of 13, a discount to the S&P 500's P/E of 18.77 and in the lower half of the company's 5-Year P/E Range. With an expected 2014 earnings increase of 13% and a ROE of 32%, the company's stock presents an attractive investment. This has translated to an Accumulation/Distribution Rating of 'A', with an Up/Down Ratio of 1.9, showing strong investor support for the stock - a good quality to have in an investment when currently in a market correction.

    One of the big reasons to invest in CE though is because of the natural gas industry here in the United States. A large number of chemicals and reagents used in manufacturing start out as natural gas and oil. Plastics, adhesives, paints, and a million other products all are created from the hydrocarbon compounds we know as natural gas and oil. It stands to reason then, if we are seeing a glut of natural gas and oil, these beginning materials are relatively cheap in comparison to past levels, allowing chemical companies like CE to churn out their products with greater cost efficiency. If you believe in the growth of the domestic energy scene based off of the wealth of natural gas we have, then investing in chemical companies like CE is a good way to capture some of that growth.

    For a Covered Call strategy on CE, we are recommending a Call that is slightly in-the-money. While CE has great estimates for the future, and is technically in a strong buy position and with just breaking out through a resistance level, we can not overlook the fact that the market as a whole is considered to be in a correction. By selling an at-the-money or in-the-money Call, we are able to better control the risk we have in our investment by lowering our cost basis through a greater premium. If the market corrects as we expect, we will hold on to a stock that we got to back into it a nice price. If the market holds or CE bucks the greater trend, then we have picked up a nice yield for our money while not having to worry about the risk in our portfolio. That is why we are recommending buying CE and selling the September 2014 $60 in-the-money Call.

    Scenario:

     

    • Buy 100 shares of CE @ $60.97 = $6,097 + Commission ($12.95) = $6,109.95
    • Write 1 CE September 2014 $60 Call @ $340 - Commission ($8.70) = $331.30

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


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

    (3.31 + 0.25)/61.10 X (365)/138

    = 15.41% Static Return


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

    (3.31 + 0.25 + 60 - 61.10)/61.10 X (365)/138

    = 10.65% 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 5/5/2014 10:09 AM
    Categories: Weekly Picks

    Previous Post

    Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in CE over the next 72 hours.

    Additional disclosure: As active managers we will increase or decrease positions as market dictates.

    May 05 12:28 PM | Link | Comment!
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