Saturday, December 31, 2011

US Downgrade Portfolio Closed with 3.35% Gain

Readers will recall that about the time S&P downgraded US debt in August, CCI put some dry-powder to work on the simple assumption of “buy when others were fearful”. The specifics of those trades and update status can be found at this google doc and are described below under the trade status heading. 

Overall, this basket of nine diverse stock and option positions gained 3.35 % since late August. Hence this portfolio was a successful example of “buying when others are fearful” or “strategic portfolio asset allocation re-balancing”. (Because we all know,”timing the market” is never a good
Yes, that's right cash came from the sideline, was put to work, and made about a gazillion more than it would have if it stayed in cash.  Before I pat myself on the back anymore, I must point out that this portfolio substantially underperformed the market over the same time period (S&P up over 7%). Further, with better stock picking and aggressive use of leverage an investor could have done far better. However, that ignores the very real human fear factor that exists at these times. In fact, most investors actually pull money out of the market when things are fearful, not put money to work. By using option based strategies an investor can put money to work with a greater margin of safety and/or hedge against continued downturns. Hopefully the comfort that buffer provides makes it more likely that an investor will step up to the plate when times are fearful and put some dry powder to work. CCI's capital from the downgrade portfolio is mostly back in cash, waiting for another time when things seem fearful to go back to work in a conservative, hedged manner.
A final summary of the transactions are contained below.
Final Trade Results

Four long positions and associated covered calls

Bank of New York (BK) lost 10.3%. The only loser in the portfolio. CCI was finally able to sell calls against this position in December. This call expired worthless reducing the loss per share by $.26 or over 1%. This week, with the stock trading back at $20, CCI closed the position. CCI felt this somewhat different banking stock might behave better than most other financial services stocks if the sector was once again hit by a wave of selling. Hopefully that will still be the case in the longer term, and we will keep this stock on the watch list for the future. (-12.2% Cap loss, .6% div gain, 1.3% option premium)

Ford (F) - Bought a lot of stock at $10.18. Sold and then subsequently covered a lot of $11 Sept calls against the position for a gain of $.35. Did the same thing again with November $11 calls for a gain of $.49, and the once again in December for a gain of $.22. Sold the stock in Dec. at $10.89. Overall that was a 17% gain. (7% cap gain, 10% option premium)

Ford remains attractively valued and a candidate for continuing this strategy in the future. .

Waste Management (WM) - Sold Aug $30 puts for $.70, and the stock was put to us at an effective purchase price of $29.30. Sold the stock at $31.44. Over the past months, sold calls against the position for a $.63 gain and collected a $.24 dividend twice. Overall this position made 12.8% (4.7%capital gain, 5.7% option premium, 2.2%dividend).

Utilities ETF (XLU) – Originally bought the etf at $31.72 and sold Jan $32 calls against it for $1.23.
The intent was for this conservative group of utility stock to stay stable through the end of the year and pocket both the option premium and two dividend cycles. This position was called away from me in mid December. Overall the position made 6% ( .8% cap gain, 4% option premium, 1.2 % dividend)

Having the position called away before the second dividend payment cost a small amount and was unfortunate. However, when this situation of early exercise occurs, I just try to rationalize it as the original decision was soooooo good that one of those big bad wall street types paid me the compliment of skimming away a little bit of my good idea.

Four short puts trades were made. All were closed with a profitable collection of option premium
  • Japan ETF (EWJ) $9 put – closed for a profit of .9% in a little more than a week.
  • Health Care Sector (XLV) Jan $29 puts – closed at $.39 for a gain of 4.6% in about 2 months
  • Bank of America(BAC) – first the Sept $7 puts and then the $6 Oct. puts for a gain of 5.5% in about 2 months.
  • Corning (GLW) – Initially sold Oct $13 puts for $.75 cents. Those expired worthless and put the same trade on for $13 puts in November for $41 cents. Covered that position after the earnings move at $.08 for a gain of $33. In total $1.08 (9.1%) gain in about 3 months.
Materials ETF (XLB) – As previously described. Initially the Dec $31 puts were sold and those proceeds were used to buy the Dec $34 calls. Zero out of pocket costs. When XLB was trading higher we were able to finance the covering of the short Dec $31 puts by selling the Dec $37 calls. Received a very small credit. In option language, that was starting with a risk reversal and converting it to a vertical call spread. In common sense language that was risking less ($31) to now have a can't lose shot at making $3 or about 10%.It is nice to be sitting in a place where we are now essentially playing with the houses money. XLB plunged in November and never recovered. The trade expired with a small profit from the option trades of .7%.

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