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List of Covered Call Trades for September 2011

 After two weeks of uncertainty and high volatility equities look as if they have found a short-term bottom.  For covered call traders, there are so many ideas available but the market still is not as stable as we would like it to be.   All of the improvement after Tuesday’s  reversal could be unwound if there is more negative news from Europe.  Our colleagues in Europe reminds us Italy is a huge debt problem and  since the European banks will need to raise capital, they will tighten lending,  especially interbank lending which may create liquidity issues.
As for last week’s volatility in the equity  markets, here is an appropriate quote from Samuel Brittan in last Thursdays  Financial Times. “The stock exchange always has been and always will be a  mixture of investment appraisal and sheer gambling.”  With this thought in mind, we still need to exercise caution with covered call trades.  The list below is primarily conservative stock trades with Coke, Exxon, Altria and General Mills.  The covered call trades will create monthly income while these stocks have nice dividend yields to add some income.
Covered Call Trades

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The Coca-Cola Company (KO) is a non-alcoholic beverage company. The Company owns
or licenses and markets more than 500 non-alcoholic beverage brands, primarily
sparkling beverages but also a variety of still beverages such as waters,
enhanced waters, juices and juice drinks, ready-to-drink teas and coffees, and
energy and sports drinks. It also owns and markets non-alcoholic sparkling
beverage brands, including Diet Coke, Fanta and Sprite. It manufactures, markets
and sells, beverage concentrates, referred to as beverage bases, and syrups,
including fountain syrups (the concentrate business or concentrate operations),
and finished sparkling and still beverages (finished products business or
finished products operations).It operates in six segments: Eurasia and Africa,
Europe, Latin America, North America, Pacific, Bottling Investments and
Corporate. On October 2, 2010, it acquired the North American business of
Coca-Cola Enterprises Inc. (CCE).
Exxon Mobil Corporation (XOM) is a manufacturer and marketer of
commodity petrochemicals, including olefins, aromatics, polyethylene and
polypropylene plastics and a range of specialty products. It also has interests
in electric power generation facilities. It has many divisions and hundreds of
affiliates with names that include ExxonMobil, Exxon, Esso or Mobil. Divisions
and affiliated companies of ExxonMobil operate or market products in the United
States and other countries of the world. Their principal business is energy,
involving exploration for, and production of, crude oil and natural gas,
manufacture of petroleum products and transportation and sale of crude oil,
natural gas and petroleum products. On June 25, 2010, it acquired XTO Energy
Inc. by merging a wholly owned subsidiary of ExxonMobil with and into XTO. In
October 2010, Global Partners LP acquired retail gasoline stations from Exxon
Mobil. In June 2011, the Company acquired Phillips Resources.
CVS Caremark Corporation (CVS) is a pharmacy healthcare provider
in the United States. It provides pharmacy services through its pharmacy benefit
management (PBM) mail order and specialty pharmacy division, Caremark Pharmacy
Services; approximately 7,000 CVS/pharmacy retail stores; retail-based health
clinic subsidiary, MinuteClinic, and through its online pharmacy, CVS.com. It
has three segments: Pharmacy Services, Retail Pharmacy and Corporate. The
Pharmacy Services segment provides a range of pharmacy benefit management (PBM)
services, including mail order pharmacy services, specialty pharmacy services,
plan design and administration, formulary management and claims processing. As
of December 31, 2010, the Pharmacy Services segment operated 44 retail specialty
pharmacy stores. As of December 31, 2010, its Retail Pharmacy segment included
7,182 retail drugstores, of which 7,123 operated a pharmacy, which is its
CVS.com, and retail health care clinics.
Mylan Inc. and its subsidiaries (MYL) is a generic and specialty
pharmaceutical company, which provides products to customers in more than 150
countries and territories. The Company operates in two segments: Generics and
Specialty. Mylan is a fully-integrated global pharmaceutical company that
develops, licenses, manufactures, markets and distributes generic and branded
generic pharmaceuticals, specialty pharmaceuticals and active pharmaceutical
ingredients (API). In September 2010, Mylan completed the acquisition of 100% of
the outstanding equity in Bioniche Pharma Holdings Limited (Bioniche Pharma).
The United States sales are derived through the wholly owned subsidiary Mylan
Pharmaceuticals Inc. (MPI), its primary United States pharmaceutical research,
development, manufacturing, marketing and distribution subsidiary, as well as
through Mylan Institutional. Mylan Institutional. The specialty pharmaceutical
business is conducted through Dey Pharma, L.P.
General Mills, Inc. (GIS), is a global manufacturer and marketer
of consumer foods sold through retail stores. The Company is also a supplier of
branded and unbranded food products to the foodservice and commercial baking
industries. General Mills manufactures its products in 15 countries and markets
them in more than 100 countries. The Company’s businesses are organized into
three operating segments: U.S. Retail, International, and Bakeries and
Foodservice. Its product categories in the United States include ready-to-eat
cereals, refrigerated yogurt, ready-to-serve soup, dry dinners, shelf stable and
frozen vegetables, refrigerated and frozen dough products, dessert and baking
mixes, frozen pizza and pizza snacks, grain, fruit and savory snacks, and a
variety of organic products including soup, granola bars, and cereal. In July
2011, it acquired 51% controlling interest in Yoplait S.A.S.
Altria Group, Inc. (MO) is a holding company. As of December 31, 2010, Altria
Group, Inc.’s wholly owned subsidiaries included Philip Morris USA Inc. (PM
USA), which is engaged in the manufacture and sale of cigarettes and certain
smokeless products in the United States; UST LLC (UST), which through its
subsidiaries, is engaged in the manufacture and sale of smokeless products and
wine, and John Middleton Co. (Middleton), which is engaged in the manufacture
and sale of machine-made large cigars and pipe tobacco. Philip Morris Capital
Corporation (PMCC), another wholly owned subsidiary of Altria Group, Inc.,
maintains a portfolio of leveraged and direct finance leases. As of December 31,
2010, in addition, Altria Group, Inc. held a 27.1% economic and voting interest
in SABMiller plc (SABMiller). As of December 31, 2010, Altria Group, Inc.’s
segments included cigarettes, smokeless products, cigars, wine and financial
services.

How to Determine the Best Expiration Time and Strike Price when Selling Covered Calls

In determining how long an option to write when selling covered calls, we should remember that a 3-month option will have a higher average monthly return than a 6-month or 9-month option.

If you determine that the stock price will be lower over the next 3-months, you should consider writing a 9-month option.  This will produce more premium than a 3-month call.  Then, you can close this when the stock pulls back to collect the profit and sell another call option.

If you decide that the stock price will increase in the next 3-months, then it will be best to sell a 3-month option and write another call option on expiration.  This will total more premium than an original 6-month or 9-month option.

If you follow my strategy, just replace a 3-month option with a current month option to generate more monthly income.

Let’s use Coca-Cola (KO) as an example.  KO is trading at $69.00 at this time.  Here are the option premiums:

  • Aug 2011 70 calls – $0.55
  • Nov 2011 70 calls – $2.00
  • Feb 2012 70 calls – $2.75

If you think the stock will be $65 in 3-months, you should sell the long-term option for $2.75.  When the stock price is at $65, options at this strike will have a premium of around 2.5. You could sell these options at $65 when you close the $70 strike if the stock price declines.  In general, you should get around a 3% return on a Nov call so doing this 4 times a year results in a 12% return not including the dividend.  A 12% premium return still makes a profit even if the stock declines $5.00.

What Strike Price should you choose? Options with a higher strike price are most profitable when the stock price increases but the lowest strike price will perform the best when the stock price declines.  Which stock price should we write? The maximum return potential (highest strike) or greatest downside protection (lowest strike)?

The answer to this questions is to go back to why you are selling covered call options.  The main reason we are selling covered calls is to obtain an assured monthly income.  The biggest risk is that the stock price will fall.  My general rule is to give first preference to the option with the lowest strike price which is usually ATM unless I am expecting a big market correction (ITM calls).

This gives the most protection against a potential stock price decline.  You get the protection and still make a profit when the stock price rises.  The basic thinking of selling covered calls is that you give up a potential for home runs for a steady stream of base hits.  This is what is required to make a steady monthly income.

Bottom line: You should stay with your trading plan based on why you are writing calls in the first place – income.  If you are looking for home runs, you will not find them when selling covered calls.

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