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Covered Call Write on Caterpillar (CAT)

Caterpillar (CAT) reported blow-out earnings on October 24. CAT jumped 5.7 percent to $92.39 and led the Dow higher after the heavy equipment maker reported a quarterly profit that topped estimates on record revenues. Excluding the impacts of the recent acquisition of Bucyrus International, profit was $1.93 per share, up 58 percent from a year ago. Sales and revenues excluding Bucyrus were $14.581 billion, up 31 percent from the third quarter of 2010. Excluding the impacts of Bucyrus, it was an all-time record quarter for both sales and revenues and profit.

STRATEGY: Look at the December 2011 92.50 covered call. For each 100 shares of Caterpillar (CAT) stock you buy, sell one December 2011 92.50 covered call option for a $88.85 (92.35 – 3.50) debit or better. That’s potentially a 4.11% assigned return in 25 days or a whopping 60% annualized return.

TECHNICALS: The technicals for CAT are bullish with a possible trend reversal. The stock is under accumulation with support at 80.76. S&P rates this stock 4 STARS (out of five) – buy.

RISK: The stock has to drop 3.8% to threaten the breakeven point.

PROTECTIVE PUT: For those wishing to protect your downside, buy the May 2012 90 put for $10.35. Buy one put for each 100 shares of stock you own. Sell the put when you exit the covered call trade.

S&P RESEARCH NOTES: S&P reiterates buy opinion on shares of Caterpillar (CAT) . Q3 adjusted EPS of $1.93, vs. $1.22, beats our forecast by $0.19. Revenue gain of 41% was above our 36% forecast, on higher demand in almost all products and geographies. Record Q3 sales and profit results were particularly impressive to us in light of economic challenges in developed nations. CAT’s current trends also lead us to expect ongoing demand growth in ’12. We lift our ’11 EPS estimate $0.05 to $7.35, and ’12’s by $0.10 to $9.20. In light of growing economic uncertainties, however, we trim our target price by $13 to $129, on our revised historical P/E analysis.

Performance of Caterpillar (CAT) stock

Click to enlarge

Covered Call Write on JP Morgan Chase (JPM)

Covered Call Recommedation on JP Morgan Chase (JPM) currently trading at $31.30.

STRATEGY:  Look at the March 25 covered call. For each 100 shares of JP Morgan (JPM) stock you buy, sell one March 25 covered call option for a 29.40 (31.30 – 1.90) debit or better. That’s potentially a 5.4% assigned return in 32 days.

Risk:   The technicals for JPM are bearish with a possible trend reversal.  The stock is under accumulation with support at 30.11.  S&P rates this stock 4 STARS (out of five) – buy.  The stock has to drop 6.5% to fall to the breakeven level.
Protective Put:  Those seeking more protection may look at purchasing the March 2012 30 put at $3.15.  Sell the put when you exit the covered call position.
S&P Research Notes:  S&P maintains buy recommendation on shares of JP Morgan Chase and Co (JPM).  Q3 EPS of $1.02, vs. $1.01, misses our estimate of $1.10 on higher than expected loan loss provisions.  As we expected, investment banking and trading fell significantly from Q2. However, credit card revenues, net interest income, and mortgage fees were in line with our expectations.  Quality of earnings improved greatly as reserve releases were relatively small.  We lower our ’11 EPS forecast to $4.67, from $4.87.  We also reduce our target price by $5 to $47, based on a slight premium to peers 10.0X multiple on our forward four quarters EPS projection of $4.76.

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