Taking and Making Profits

Last month I described the conundrum of big percentage moves in small price stocks.

I ended up taking some profit on the first leg of Citi’s move, enough to pay for this month’s health insurance premium.  Today I let my remaining Citi shares pay another month’s premium, and I didn’t have to sell them.

I sold April $4 call options, picking up 30 cents a share.

Sounds like peanuts, right?  Maybe I’m like the elephant in the kid’s joke that works for peanuts.

As you’ll recall, I bought the stock for $3.24 about six weeks ago.  If those shares get called away from me in April, I’ll have another three months of health insurance covered, and still have my original capital back.

On an annualized basis, the return is sky-high (triple digit percentage, without getting crazy about calculating it). From a cash management standpoint, I had a third of my capital back in a couple of weeks (plus a ‘usable’ profit), and today I took another usable chunk of cash out.

I love it when what was an option play (the cheap shares I bought in the first place) begins to pay me through other options.  Today, my cheap January shares have grown up, enough so they can pay me roughly ten percent of their cost, possibly every month.

The mindset that I’m in when I do these small profit, big percentage, trades is similar to the short-term ELN call writing strategy I wrote about the other day.  By the way, I added more to that position today, writing July $8 calls against the new shares.  My logic was that the prior ELN trade with the April $7 calls is very likely to be called, so now I can increase the exposure and lengthen it over time, since I like owning that stock.

The $8 calls yielded 60 cents in premium, so the buy-write from today cost me a net of $6.86 a share after taking the premium into account.  If those new shares also get called, I’ll make $1.12 a share (2 cents in commissions from option exercise) in a day or two short of four months. 

That’s 16.33% return in a third of a year.  Even simply multiplying (not compounding) that amounts to a 49% annual rate.  With compounding, the effect is magical (Baron Rothschild’s eighth wonder of the world).

OK, I couldn’t resist – it’s north of 57% per annum.

In yet another example of incrementally letting the market pay me with its volatility, I unwound my “negative cost” vertical call spread in IOC today.

It started with buying the stock in the low $60’s when it was running up like crazy in December, and writing juicy March $65 calls for over $9 apiece.

Then the stock went for a roller-coaster ride, peaking over $80.  I didn’t care, because I was looking forward to keeping the option premium and selling the stock to some lucky punter who bought those $65 calls.

As it headed back south last month, I became concerned that it might fall back into its 2009 trading range, below my cost basis in the low 50’s.  I saw the chance to buy the March $60 calls for around $8 a share, so I took it, and unloaded the underlying shares for a buck or two of profit (another month’s health insurance premium amount, as it turns out).  That left me with one option protecting the risk of getting called on the other option.

Once again, I was relatively indifferent where the stock went, though much happier when it went up.

It went up, but then headed south yesterday while I was spending the day getting from one airport to another to another.

Today, I saw the chance to unwind the $5 vertical call spread for $4.50, and took it.  This stock can move a number of dollars a day.  Even though the March options only have six trading days left in them, getting 90% of the maximum potential profit in the position was definitely worth doing.

Investing in tricky markets like this one seems to me to be like the theory of modern chess (IMO, introduced in the early 20th centruy by the Cuban great, Capablanca). 

Although I’m not a serious player at all, let me express my version of his contribution:  When I look at his games, I see him working to make his opponents’ potential moves as weak as possible while doing the opposite for his own potential moves.

It’s almost as if Capablanca was not looking to see the exact future, but maximizing the potential across all futures.

My IOC, ELN and C trades all would have been more profitable if I had simply bet long or short at the right times.  I didn’t.  I made hedged bets and sold volatility to increase my holding period returns.

Remember, pigs get slaughtered.



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