Wednesday, April 19, 2017

Two Recent Sells

Covered call trading is a two-edged sword. It provides a way to generate options income and so boost dividend income. You sell someone the right to buy shares you own at a predetermined price, called the strike price. For that right, the options buyer pays you an options premium.

I report my options trades monthly, usually after option expirations date. I'm yet to report on my options trading activity for March, but you can see February's report here.

When I sell covered calls, I'm well aware of the potential drawbacks. The stock price can move quickly above the strike price and you have to sell your shares. You leave money on the table and, assuming the strike price is above your cost basis, you have to pay capital gains tax. Finally, you give up future dividends.

Today I'm reporting two sells that resulted from assigned covered calls. In both cases, I made positive net gains, even without accounting for the retained options premiums.

Reynolds American (RAI)



RAI is a holding company that manufactures and sells cigarettes and other tobacco products in the United States.

On 7 September 2016, I sold a $52.50 call option on RAI with an expiration date of 17 February 2017. Net option income was $124.30.

At the time, RAI's quarterly dividend was 46¢ per share and the stock's yield was 3.88%. With the options trade, I'm earning an annualized option yield of 8.57%, or about 2.2 times RAI's dividend yield!

In October 2016, British American Tobacco (BAT) launched a bid to buy RAI. Shares of RAI soared 18% and well past my $52.50 strike price. I considered rolling the option forward but, ultimately, I decided to let the option be assigned. BAT agreed to RAI's terms and I'm not really interested in owning BAT shares.

RAI Trading Summary

    2012-06-12
 Bought 60 shares of RAI at $21.78 per share:
$
1,307.10
2012-10-01
 Dividend on 60 shares at 29.5¢ per share:
 $
17.70
2013-01-02
 Dividend on 60 shares at 29.5¢ per share:
 $
17.70
2013-04-01
 Dividend on 60 shares at 29.5¢ per share:
 $
17.70
2013-07-01
 Dividend on 60 shares at 31.5¢ per share:
 $
18.90
2013-10-01
 Dividend on 60 shares at 31.5¢ per share:
 $
18.90
2014-01-02
 Dividend on 60 shares at 31.5¢ per share:
 $
18.90
2014-04-01
 Dividend on 60 shares at 33.5¢ per share:
 $
20.10
2014-07-01
 Dividend on 60 shares at 33.5¢ per share:
 $
20.10
2014-10-01
 Dividend on 60 shares at 33.5¢ per share:
 $
20.10
2015-01-02
 Dividend on 60 shares at 33.5¢ per share:
 $
20.10
2015-04-01
 Dividend on 60 shares at 33.5¢ per share:
 $
20.10
2015-06-22
 Cash in lieu of fractional shares:
 $
6.64
2015-07-01
 Dividend on 60 shares at 33.5¢ per share:
 $
20.10
2015-10-01
 Dividend on 60 shares at 36.0¢ per share:
 $
21.60
2015-11-16
 Bought 25 shares of RAI at $45.52 per share:
 $
1,138.00
2016-01-04
 Dividend on 85 shares at 36.0¢ per share:
 $
36.60
2016-04-01
 Dividend on 85 shares at 42.0¢ per share:
 $
35.70
2016-07-01
 Dividend on 85 shares at 42.0¢ per share:
 $
35.70
2016-07-18
Bought 15 shares of RAI at $52.36 per share:
 $
785.34
2016-10-03
 Dividend on 100 shares at 46.0¢ per share:
 $
46.00
2017-01-03
 Dividend on 100 shares at 46.0¢ per share:
 $
46.00
2017-02-17
 Sold 100 shares at $52.50 per share:
 $
5,250.00
Capital gain:
$
2,019.56
 Dividends received:
 $
458.64

Commissions/fees/taxes:
$
21.13

Net gain:
$
2,457.07

I made a net gain of 76.06% on the original amount invested, or 30.79% annualized.

As a consequence of selling these shares, DivGro's projected annual dividend income (PADI) is reduced by $184.

Please note that I still own 100 shares of RAI.

Kimberly-Clark (KMB)



KMB manufactures and markets a range of products made from natural and synthetic fibers using advanced technologies in fibers, nonwovens, and absorbency.

On 25 November 2016, I sold a $120 call option on KMB with an expiration date of 17 April 2017 and collected option income of $272.30.

Compared with KMB's yield of 3.10% at the time, the annualized yield of my covered call was 5.69% or  1.84 times the annual dividend income!

After beating fourth-quarter earnings expectations, KMB's share price climbed more than 10% and well past my call option's $120 strike price. Unfortunately, I couldn't find a suitable way to roll forward this option, so I just waited for the option to be assigned. 

KMB Trading Summary

    2012-06-07
 Bought 20 shares of KMB at $80.55 per share:
$
1,611.00
2012-02-01
 Dividend on 20 shares at 74¢ per share:
 $
14.80
2013-01-03
 Dividend on 20 shares at 74¢ per share:
 $
14.80
2013-04-02
 Dividend on 20 shares at 81¢ per share:
 $
16.20
2013-07-02
 Dividend on 20 shares at 81¢ per share:
 $
16.20
2013-10-02
 Dividend on 20 shares at 81¢ per share:
 $
16.20
2014-01-03
 Dividend on 20 shares at 81¢ per share:
 $
16.20
2014-04-02
 Dividend on 20 shares at 84¢ per share:
 $
16.80
2014-07-02
 Dividend on 20 shares at 84¢ per share:
 $
16.80
2014-10-02
 Dividend on 20 shares at 84¢ per share:
 $
16.80
2015-01-05
Dividend on 20 shares at 84¢ per share:
 $
16.80
2015-04-02
 Dividend on 20 shares at 88¢ per share:
 $
17.60
2015-07-02
Dividend on 20 shares at 88¢ per share:
 $
17.60
    2015-07-07
 Bought 4 shares of KMB at $109.73 per share:
$
438.92
2015-10-02
 Dividend on 24 shares at 88¢ per share:
 $
21.12
    2015-11-16
 Bought 4 shares of KMB at $117.32 per share:
$
469.28
2016-01-05
 Dividend on 28 shares at 88¢ per share:
 $
24.64
2016-04-04
 Dividend on 28 shares at 92¢ per share:
 $
25.76
2016-07-05
 Dividend on 28 shares at 92¢ per share:
 $
25.76
    2016-08-09
 Bought 72 shares of KMB at $129.81 per share:
$
9,346.10
2016-10-04
 Dividend on 100 shares at 92¢ per share:
 $
92.00
2017-01-04
 Dividend on 100 shares at 92¢ per share:
 $
92.00
2017-03-07
 Sold 100 shares at $120.00 per share:
 $
12,000.00
Capital gain:
 $
134.71
 Dividends received:
 $
478.08

Commissions/fees/taxes:
$
28.29

Net gain:
$
584.50

I made a net gain of 4.93% on the original amount invested, or 3.98% annualized, and DivGro's PADI decreased by $388.

Conclusion


Covered call trading is a two-edged sword. On the one hand, it provides a way to boost dividend income with options income. On the other hand, if the stock price moves quickly above your strike price, you have to fulfill your obligation and sell the shares to the option buyer.

I sell covered calls after considering all possible outcomes. I choose not to sell covered calls below my cost basis. If the covered calls are assigned, I know I'll end up with a net gain (even if its a small one like with KMB above).

The fun part of selling call options is that I'm boosting dividend income, often collecting two years of dividend income in one go!

Thanks for reading! Let me know what you think of this article below.

10 comments :

  1. Nice returns on Reynolds. Personally I would never be a seller of options. Limited upside, unlimited downside (theoretically). Sure the income looks nice, but all it takes is one big loss to wipe that out.

    ReplyDelete
    Replies
    1. Thanks for commenting, Troy -- but I have to ask: how does selling options have unlimited downside, even theoretically?

      If I sell a covered call, I own the underlying stock and I decide what I'm willing to sell for, collecting the option premium to boot. I don't see any downside and certainly none that is unlimited.

      If I sell a put, I sign up for buying a stock at a certain price -- usually at a discount to the current price. Theoretically, the company could go bankrupt (unlikely) and I would have to buy shares at the strike price. My loss would be capped and, therefore, it is not unlimited.


      Delete
    2. It is unlimited if you are writing naked options. But Ferdi does not do that. I have to say I wait every week for some updates from you. You blog is fantastic and i am learning a lot. I will be staring my own blog shortly. My strategy is very similar to what you are doing although i have few speculative stocks there for the capital gain. Keep up the great work! :)

      I'm trying to think of a blog name (KISS (Keep It Short and Simple)) finance)

      Delete
    3. Writing a naked call option would have unlimited down side, yes. Writing a naked put option does not. And you're right, I don't write naked calls, only covered calls.

      Do start your own blog! I've learned a lot even just researching what I want to write about, but also by reader's comments. It takes some discipline to keep at it, but it is well worth the effort!

      Delete
  2. Those returns on RAI are stellar. I don't do a lot of covered call writing although that's more of a function of not owning 100 share lots of most of the companies that I own. That's something that I really want to address although I'm a bit hesitant to do much covered call writing within my taxable account especially on positions where shares were purchased years ago. Yeah I can make a bit more via the option premium but I also don't want to create a taxable event just for the sake of doing that. It's funny because I know that's the right thing to do, but I just can't bring myself to do that. However, in my tax sheltered accounts it's all fair game.

    ReplyDelete
    Replies
    1. Thanks for commenting, Passive IncomePursuit. Initially I had the same issue (not owning 100 shares), so I closed some positions to make up the difference.

      Tax implications certainly is a consideration with covered call writing, and one should be careful when doing so. As for me, I have some losses from past years that I still need to make up for (as far as the IRS are concerned), so I'm OK with generating some capital gains.

      My hope is to eventually match dividend income with options income. I'm not there yet... for this year, my goals are $12,960 in dividend income and $8,400 in options income. If I can succeed, that's a significant boost to dividend income and, therefore, to compounding DivGro's income-generating capacity.

      Delete
  3. Not a bad return for the amount of work ;-)
    Later,
    DFG

    ReplyDelete
    Replies
    1. Thanks, Dividend Family Guy -- KMB's return is "bleh", but RAI certainly generated nice returns.

      Delete
  4. Awesome returns on RAI. We cannot win every option contract, but to your point you could've rolled the option. I like the idea of assignment, especially considering you had already made a significant gain on the stock. Nice work.

    ReplyDelete
    Replies
    1. Agreed! RAI's performance is stellar. I'm glad I have 100 more shares to ride along with.

      I'm not thrilled about the idea to own shares of BAT, so I'll eventually sell my RAI shares before the takeover finalizes.

      Delete

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