Tag Archives | dividend capture dividend play covered call writing covered calls naked puts naked put selling cash secured naked puts equivalent positions

One Trader’s Thoughts on a Dividend Capture Trade

Jason sent an example in reply to this Q & A.


An example. Pfizer is going ex-dividend next month. Paying $0.18 div and
currently trading at $18.50. March 18 call selling for 1.10. Break-even
of stock minus div and premium of 17.22.

If called 4.13% earned, if
uncalled 6.84%.

Sell stop limit on shares at 17.22 and buy back the call
(not sure what this would cost, so don't know how to include for further
loss.

***

Thanks for the example Jason,

I'm asking questions below.  I'm NOT looking for answers.  I just want to be certain you think about this and have a plan.

I believe your prices are not accurate.  Right now (Jan 28, 2PM), the stock is 18.75 and the call is only $1.11  That makes a big difference.  Be that as it may, I'll go ahead and use your numbers as well as the ones that I see right now.

1) If you are adopting this strategy for the purpose 'capturing the dividend,' then it's fairly risky.  The dividend (plus option premium) is small and the potential loss is larger.

2) If you are doing this because you like PFE and want to own its shares, then this plan is viable. You already considered risk when deciding that you want to own the shares.

3) You obviously have an exit point in mind:  A stop-loss on the downside and an assignment (sale at the strike price) on the upside.

What happens when the stock is between those prices?  Do you hold and write another covered call, or do you sell?  There's no dividend for another three months, and you appear to be interested in collecting dividends.  Do you hold despite the fact that the dividend is 'far' away?

4) How do you determine the P/L if uncalled?  What stock price are you using?  I believe you made a mistake.

I find it difficult that you believe you can earn almost 7% if uncalled and only 4% if called.  The stock is higher when you are assigned that exercise notice.

When writing covered calls, being assigned yields the maximum possible profit [Yes, I know if the stock price is a penny or two less than the strike, you save on the assignment fee].

5) To estimate the cost of call repurchase, guess a buy-back date, raise implied volatility (due to price decline) by a small amount, and calculate the option's fair value.

6) With your numbers, if called, you sell @$18, and earn $60 (pay $18.50 sell at $19.10) + dividend.  Less cost of carry (interest you did not earn because cash is tied up in stock).

Using the current  numbers that I see, that's $36 earned + dividend, less cost to carry.  Earnings are almost $54.

The put is $53.  If you sell the Mar18 put instead of buying stock and selling calls, you earn $53. 

That's $1 less.  But you save cost to carry, you save on commissions.  You save on an exercise fee. [If you are going to unload the stock @ 17.22, you can buy the put (to close the trade) and will not incur an assignment fee]  At that point, the put should cost the same as selling stock plus buying the call.

I see no advantage to your buying stock for the dividend. 

I am comparing covered call vs. cash-secured naked put.  I am not telling you to avoid either.  Your investment decision apparently suits your needs, and you cannot bet that.

The two strategies are equivalent and have the same P/L profile.  The dividend is taken into consideration by the option prices.  The evidence for that example comes with using my numbers.  You can double check to see that yours are accurate.  But I caution you to use live bid/ask prices, and never use 'last.'

Don't get your data from Yahoo.

600


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