Two weeks ago I told you about an options investment I made in Google. This investment was made just before Google was scheduled to announce their earnings for the latest quarter. For that reason, the October options had skyrocketed in value as they usually do just prior to an announcement, especially the options that will expire shortly after the announcement is made.Google announced earnings after the close on Thursday, October 17th, and the company exceeded expectations by a large margin. The stock rose over $120 on Friday.
I had made my investment in hopes that it would at least stay flat. If it did, I would stand to gain about 8% on my investment in only two weeks. Let’s see how these options did when the stock made such a huge upward swing.
Update on Google Options Purchase: My original goal was to use call options as a proxy for owning 100 shares of stock. I discovered that I could buy the equivalent of 100 shares and shell out only $15,500 rather than the $87,000 it would take to buy 100 shares.
As I reported two weeks ago, I bought 2 GOOG 800 calls that expire on the third Friday of January 2014, paying $8600 for each call, or $17,200 in total.
The reason that I bought such deep in-the-money calls is that most of the value was in the intrinsic value of the option rather than the time premium. Deep in-the-money options don’t carry such a high Implied Volatility as at-the-money options, especially those which expire shortly after an earnings announcement. That means the calls that I bought were “cheaper” than the October 2013 calls I intended to sell (using my January 2014 800 calls as security).
Since I owned 2 call options at a low strike price I was entitled to use them as collateral to sell someone else the opportunity to buy shares of GOOG at a higher price. I sold one Oct-13 890 call, collecting $13.50 ($1350) and one Oct-13 935 for $3.50 ($350).
These option positions gave me the equivalent of 100 shares of GOOG at a cost of $17,200 less the $1700 I collected from selling the two calls, or $15,500.
This was the risk profile graph for my positions that I showed two weeks ago:
Unfortunately, the graph did not extend up to the $1000+ level that the stock moved to, so I will share how I closed out the positions. When the stock was trading just about $1000 on Friday, I sold one diagonal spread (buying to close the October 2013 890 call and selling to close the January 800 call) and collected $92 ($9200). That spread had cost me $7250 to buy ($8600 – $1350) so my gain was $1950. (All these numbers have been rounded to the nearest $50.)
The second diagonal spread (buying to close the October 2013 935 call and selling to close the January 800 call) was sold for $137 ($13,700). This spread had cost me $8250 ($8600 – $350) so my gain was $5450, giving me a total gain of $7400 on an investment of $15,500, or 47%.
The stock had gone up by 13% and my option portfolio had gained 47%. How can anyone not love options?
My total commissions on these trades amounted to $10 at the commission rate that thinkorswim offers to Terry’s Tips subscribers.
This is just one example of how I use options to buy the equivalent number of shares of a company I like, and how I can collect a “dividend” each month even if the stock doesn’t actually pay a dividend. In this case, the stock skyrocketed, and my returns were considerably greater.