Sell LinkedIn to Buy Apple

by: Paul Zimbardo

Apple (NASDAQ:AAPL) is a very unique company due its combination of size ($310B), earnings growth rate (95%), and volatility (1.4β). This presents an exceptional opportunity for investors to capitalize on both its long-term capital gain prospects and short-term option premiums. I have recommended option strategies on Apple since 2010 with tremendous results. For reference, please view the first and other articles in the series to fully understand the strategy and its strong potential returns.

A brief recap of this week in Apple [Down $3.98 (-1.2%)]:

  • iPhone 5 Rumored to Not Have NFC (May 16 Business Insider)
  • Next iPhone Potentially Supporting Sprint (May 16 Apple Insider)
  • Apple Overhauling Retail Store Operations (May 18 Apple Insider)
  • Some Apple Store Employees Seek Unionization (May 19 Macworld)
  • Deal With Sony Brings Apple Closer to iCloud Launch (May 20 Bloomberg)
  • Corporate Mac Sales Rise 66% (May 20 Apple Insider)
  • Implications of Foxconn Factory Explosion (May 20 CNNMoney)

John Shinal recommends that investors sell Apple to fund a purchase of the newly public LinkedIn (LNKD). Mr. Shinal's theory is that LinkedIn provides greater potential because Apple is $300B larger. To put this into perspective, compare each company's profitability. Apple has a proven history of robust earnings growth, barriers to entry, and dedicated consumers. In contrast, there is LinkedIn which expects to lose money this year, has no true unique competitive advantage, and numerous competitors. At a bare minimum I urge investors to read the full LinkedIn S-1 before following Mr. Shinal's strategy. As I stressed last week, Apple is trading at a multiyear low PE. Apple was holding steady at $340 before the Foxconn news (OTCPK:FXCNY). This will certainly have financial implications but will likely only have a short term impact.

Below I present three possible scenarios and the potential returns for the May 27 weekly options (Source: TD Ameritrade). The first scenario represents a negative outlook for Apple while the final two scenarios are more realistic in my opinion. As a general rule, selling calls with higher strike prices has greater potential return but additional risk of loss due to the lower (or lack of) downside protection. For more information on the fundamentals of covered calls, consult Investopedia.

Apple AAPL Weekly Options
(Click to enlarge)

Additionally, if you would like even more information, I have prepared a sensitivity analysis for absolute return and percent returns, respectively. After studying the information above, these two charts make it easy to pick a strike price based on where you believe Apple will close on Friday.

Apple AAPL Sensitivity Analysis
(Click to enlarge)

With this information, executing a short straddle on AAPL May 27 330s while long the stock is the optimal risk-return strategy. If Apple closes above $330 the return is $7. If you are uncomfortable using a short straddle, I suggest a buy-write on the 340s. An alternative related strategy is to sell only the out-of-the-money puts and collect the premium without having to purchase the stock outright; the 330s and 335s are attractive for this purpose. Selling either covered calls or puts is simply isolating the legs of the short straddle to assume less risk. Note that if the stock declines to the strike price, you are obligated to buy the stock (or closeout the position).

I advocate writing calls and puts because the strategy is effective and simply. If you are interested in more "exotic" strategies please consult Rocco Pendola's latest article. Specifically Rocco details Bull Put and Bear Call Credit Spreads. Rocco is certainly one of the best tech writers here at Seeking Alpha and he writes quite frequently. I suggest following him to obtain further insights into Apple as well as other potential option trades. At a minimum I read all of his Apple articles and comments. The beauty of Seeking Alpha is that you have access to the collective knowledge of so many investors and I urge you to take advantage of this.

Disclosure: I am long AAPL.