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PICKING UP PENNEYS

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Back in my days on the trading floor we had a saying about short term trading, that it was like picking up pennies in front of a steamroller - scalping quick profits only to give it back, and more, when the markets went against you. It seems the older I get, the farther out in time my investing goes - starting with my book: Zero (In)Tolerance, about selling covered call options on dividend paying stocks (minimum 3%) that are about 5-6 months away. The idea of selling DITM (deep -in-the-money) calls is that if you buy a stock at, say $30, but sell the 6-month call of $25, you immediately receive the missing $5 back plus $1 or so from the buyer of your option; plus you should get two quarterly dividends to boot.

This worked fine for the first four years of testing - averaging 11% in most tests and an actual trading IRA account; then option volatility (VIX) quieted down and I got into a bad sector choice - resources, metals, where the steamroller took away much of the profits and DITM went into Stall Speed.

A year ago I started going even farther out in time (as I got older) into a strategy of selling LEAPs, or Longterm Equity AnticiPation options on lower priced stocks. By buying the stock and selling a covered Leap call, as well as a lower priced put option to take on more stock if it dropped lower by the expiry date - usually the third Friday in January, 2015 or 2016,you are bringing in nearly half the money paid for the stock, you have a nice hedge, or insurance policy if the stock stays the same price or rises slightly. As with the DITM above, you get the option cash up front (CUF), which must stay in the account - no Xmas shopping with it- but you can defray the cash requirement for the put if assigned (stock you like put to you in a couple years).

For example, this week I did the following Leap trade on J.C.Penney (see column title).

By far my most profitable (projected) trade, the optimal gain is 78% - much better than the 0.01 Money Market Fund. Just buying the stock, it would have to almost double to $18 to equal this gain -without the concomitant hedge to insure it. *This trade is an example, not a recommendation, as are all stocks mentioned in this column.

I bought 300 JCP at $8.96, for $2967, sold a 2016 call Leap of $12 for $916, and simultaneously sold a Leap put ($7-strike price) for $739. If JCP rises to above $12 and stays there at January 2016, I keep all the option money -$1655- plus the stock appreciation from 9.86 to 12, or $642 on 300 shares. With no dividend (so far) that is nearly 78% over just more than two years. Annualized, that is 37%/ year!

If JCP stays about the same by the third week expiry in 2016, forget the appreciation as the stock is not called away, but both the put and call expire worthless (you keep the $$$).

By 2016 if JCP is at $7 a share, unlike DITM where one has "pre-sold" the stock at a lower price, one does temporarily suffer (on paper) a decline of the stock (@$600), keeping the joint option money, and "writing" (selling) another set of puts and calls two years hence - you already own the stock. You can lower the strike prices of the new options to fit- say $9 call and $6 put for 2018.If JCP, or any stock slides off into the pink sheets or bankrupt, I have 15-20 other well-paying Leap positions to make up for it.

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