Apple Is Ripe For Option Trades

Date:2011-09-13lile  Text Size:
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Apple (AAPL) is a unique company due its size ($350B), earnings growth rate (125%), and volatility (1.3β). I have recommended option strategies on Apple since 2010 with tremendous results. For reference, please view the first and other articles in the series to fully understand the strategy and its strong potential returns.

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A brief recap of this week in Apple [Up $10.11 (2.8%)]:

Dell (DELL) joins forces with Baidu (BIDU) to make Tablets (September 6 Reuters )
Apple projected to grow iPhone sales by 82% in 2011 (September 6 Digitimes)
Sprint sues to block AT&T (T) /T-Mobile merger (September 6 Engadget)
Apple wins permanent injunction against Samsung Galaxy Tab (SSNLF.PK) in Germany(September 9 Apple Insider)
In a surprising show of resiliency, Apple outperformed the Dow by over 6.5%, lending further support to the hypothesis that Apple will continue to thrive. In essence, no news is good news for Apple investors, aside from the usual widely expected product launches. If you are a covered call seller, the picture is even brighter as you are able to generate more income when investors are fearful.

There was more speculation about the iPhone 5 release date (all signs still point to early October) and projections of iPad/iPhone sales (tens of millions), but nothing unexpected for Apple followers. Whenever I see Apple beaten down by greater than two percent in a day, I tell myself to remember Apple at $80 in the 2008/2009 market crash. There was no Apple specific news causing the decline but simply panic selling. Relatively speaking, Apple was lucky this week as it is highly unusual for a stock to outperform the market during a sell-off without an immediate positive catalyst. I am by no means bearish on Apple, but if you have been following my weekly articles you know that I have no problem taking profits in the short term.

Below I present three possible scenarios and the potential returns for the September 16 monthly options (Source: TD Ameritrade). The first scenario represents a negative outlook for Apple, while the final two scenarios are more reasonable. These scenarios are just projections and there is no guarantee that they will come to fruition. As a general rule, selling calls with higher strike prices has greater potential return but additional risk of loss due to the lower (or lack of) downside protection. For more information on the fundamentals of covered calls, consult Investopedia.

Additionally, if you would like even more information, I have prepared a sensitivity analysis for absolute return and percent returns, respectively. After studying the information above, these two charts make it easy to pick a strike price based on where you believe Apple will close on Friday.

With this information, executing a buy-write on AAPL September 16 (Monthly) 380s is the optimal risk-return strategy. If you are uncomfortable with this strategy, I suggest an ordinary buy-write 375s or 385s. Additionally, if you are confident that the volatility will persist buying a 380 call/375 put long strangle to profit from these extreme price movements. An alternative approach is to sell out-of-the-money 375 puts and collect the premium without having to purchase the stock outright but even this is quite risky now. Note that if the stock declines to the strike price, you are obligated to buy the stock (or closeout the position).

Disclosure: Author is long AAPL and T; plans to write AAPL September 16 390 Calls.
 

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