I keep on fine tuning my portfolio, concentrating on my riskiest positions and cash management. I just sold 3 strike 10 Jan 2014 calls. I had bought them in mid May at 1.92 when the stock was slightly under 11 and sold them today at 1.98 when the stock was at 11.43. As you can see time decay works against calls.
When I started investing in Applied Materials (AMAT) I started to buy options soon. With Dell the difference was that I bought options after after having bought a substantial amount of stocks. When Dell kept falling I felt confident to leverage with cheaper options and therefore added near the stock lows. The advantage in the Amat case is that since I started with options which had 18 months of lifetime as the stock kept falling the options hardly decayed. Lower prices gave me the confidence to add a reasonable amount of stocks near the bottom levels. Now that the stock position is reasonable and that there are more attractive calls available I prefer to get rid of them. I also sold for similar reasons the riskiest strike 10 Dell calls initially bought while keeping the strike 7 and 8 ones bought at lower stock levels.
Call options often require dynamic activity, time is against you and you should therefore closely watch them and sell or exchange them for other options or stocks if convenient. In my case I base my option buying decisions on the company fundamentals. I basically only buy them when I consider the company to be very undervalued and when I already have stocks, or plan to have them. Examples of call options that worked out good are the ones I bought with United States Gypsum (USG, construction materials) and Western Digital (WDC, computer hard drives). I did it only when I was very sure that the stock and options were extremely undervalued. Recent examples are the Dell and Intel calls I just bought.
Like Philip Carret, one of the reasons I like to have cash on the sidelines is for those very special occasions when options get cheap. Carret, a very interesting guy and outstanding investor, was also special in the sense that he introduced me with the Austrian Economists way of thinking. I’m very grateful to him for that.
This act increases the future possibilities of buying more if the stock falls. It reduces the total amount of investments in technology and increases my cash percentage. It also gives the chance to exchange them with other calls, like for example further away strike 8 Jan 2015 calls, the advantage is that they have a smaller prime value and are more than 24 months away. The disadvantage is that if the stock falls under 8 I could lose more than with the strike 10s. But since I think that the company is fundamentally very sound and its stock price quite reasonable I do not care much about that disadvantage.
Cheers!
jrv
Hi jrv,
thank you for the blog and for your intresting posts.
ok, i know that the stock is cheap but how do you know that the options is cheap too?
you used black and scholes ?
thanx
Amir
Hi Amir,
I do not use Black and Scholes.
When a stock seems to be cheap I first make sure that the company is fundamentally undervalued.
Then I choose some call option, generally in the money, and check that the time value is something I feel OK with. If that happens I usually buy stocks but if it seems very cheap and I have enough stocks I might then add calls.
For example now Intel strike 18 Jan 2015 call is at 3.80. Since the stock is at 20.64 the time value is a bit over 1 (18+3.80-20.64). I believe that in 2 years Intel can go up substantially more than 1. Which is equivalent to say that it can go up quite more than 2.5% / year, therefore I bought the call.
Actually when I bought, both the stock and the call were quite lower, it was even more interesting.
Cheers and Merry Xmas !
jrv