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Thu, 07/01/2010 - 14:55 — Peterm

Investing for a 5% return per month?

This is another variation of the traded options strategies I have been using.

Everyone is comfortable with the idea of researching a share, then making your investment commitment. But then much is left to chance. And hope.

But what about making your purchase with a view to securing a return immediately?

This involves only a couple of steps. Here are the core rules.

Use US Blue Chips

That are Optionable

With Dollar strikes and penny spreads.

And use a good online US broker account.

Look for shares where the price is near to the strike price, and preferably at either the top or bottom of its price cycle. (So you have an idea of what it might do)

Look at the price of Call options you can sell at the two closest strikes.

Fill the prices into an Excel table like this. This is Motorla from 6th January 2010. You can download this here.

Stock. The price of your share

CV. The call strike price

CC. Call cost, the premium you receive when you sell

Return. The % you make on your purchase

In this example I am looking for a return from a share price that will increase, with call out inevitable, so the $8 call. If you felt the price would fall more than $1, then you might go with the $7 call. However, if it did not get to $7 then you only make 3.8%.

Now there are two things that can happen. You get ‘called out’, or you don’t.

You do get called out.
The price you paid for your share is now reduced. In this example paid 7.85, less .5, so price is effectively 7.35.

You don’t get called out.

If the price stays below 8 you are unlikely to get called. But the price may be less than you paid for it, or less than your net reduced price of 7.35.
This is exactly what would have happend should you just have bought the shares in a regular transaction.
But you still have the shares, and can sell more calls for income, making back the difference. But so far you made .5 on 7.85 or 6.37%.

You do get called out.
The price increases beyond 8, and your shares are called from you. You have a net cost of 7.35, and they are about to pay you 8 for them. That’s a 8.8% return.

Or you could add the .55 to the .5, 1.05, and consider it against your 7.85 investment. 13.3%.

Now, I am not saying that this is in anyway fool proof, you have to do the research, but it sure is better than hope alone. And there are lots of ways to protect your position against possible substantial price falls.

Food for thought…..

What Happened Next...

After this exercise was researched in Jan 2010 the price did indeed fall substantially. This offered two alternatives.
1. Buy back the calls at reduced prices to take the money on the table, or

2. wait and hope the price remained lower thatn the strike to take the whole premium.

Of course the value of the initial investment had deterioated. Well, it will go up again. But if you need to know that your assets are liquid, a protective Put in place would have assured the value, and still given a return.

Downloadable Excel sheet is protected but without password. The idea is to prevent errant entry. You are able to make any changes you might like to it.