In a focus on XLB, the SPDRs Materials Sector ETF, in the January 31st, 2014 newsletter, I showed how the ETF was coming off major support, on good volume, and that a stochastics ‘buy' signal had formed.
Instead of trading XLB itself, I went on to focus on my best pick of the XLB components, DuPont (DD). DD's chart looked very similar to the sector ETF – it was just coming off support.
I showed how DD had a strong seasonal track record for trades entered the first week of February, and suggested a conservative trade approach that could generate a higher-than-typical return – a ‘delayed covered call'.
A delayed covered call is where you buy the stock, and if, over the next week or two, the stock rises a bit, you then sell calls against the stock. Whereas normal covered call trades, where you sell the calls at the same time you buy the stock, typically return 1% to 3%, the delayed covered call can often return significantly more. The tradeoff is it doesn't always work out that you can sell a call at a good price within the next week or two, but then you are merely left with a simple stock-only position.
With DD, I said “If the markets, and DD, open on a positive note, I will consider buying DD shortly after the open. If and when DD rises say a half to a point more, and the February 62.5 call brings in 1.0, I would sell one DD Feb 62.5 call for every 100 shares of DD I bought.“
“The February calls would likely expire after the ‘of record' date for the next dividend payment, but I won't consider the dividend in this calculation. If DD is bought at 61.54, and within a few days, a Feb 62.5 call is sold for 1.0, then this trade could return 3.24% over the next 21 days, for an annualized return of 55.5%. And there could be a $.45 dividend payment as well.
At this point, I would enter the trade aiming to let the stock be called away if it is trading above 62.5 at February expiration. A reevaluation can be made just prior to that. I'll look at the current market environment, and DuPont's situation, and I may decide to keep the stock and ‘roll' the covered calls into March.“
In the past two weeks, DD has moved up near previous resistance at 65.
Thinking like a high probability trader, when I see a stock approach the top of a well-defined trading range, I think about taking profits. The top of the range is defined by previous resistance. That implies the odds are lower that the stock will continue upwards without pause. It may be a good time to take a profit. If the stock breaks through and continues to show strength, then I can jump back in and repurchase the stock.
Looking back at my original analysis, I took the approach where I would let the stock be called away at February expiration. If I had turned this trade into a covered call already, I would still do that. Let the stock be called away and take the profit.
But if I am holding DD and didn't turn it into a covered call yet, I can still consider selling a February call against it. There are only 7 days left until February option expiration. Near DD's current price, 62.5 and 65 strike calls have been active. But yesterday, quotes for in-between strikes began showing up on the trade screens.
While no Feb 63 calls have apparently traded yet, they are being quoted at 1.22 Bid, 1.28 Ask. If I am willing to let the stock be called away, and haven't sold calls against my DD stock, then right now is a good time to bump up the profit on this trade.
If this morning I sell February 63 calls for $1.22 against the DD stock I bought at the open of 1/31/14 for 60.64, and I receive the $0.45 dividend that will be paid if I am holding DD stock on February 14th, then my potential return on this trade, if DD finishes above 63 on next Friday and the stock gets called away, will be 6.8%.
That is not bad for a conservative, 21-day trade. Annualized, that is a 117% return.
Note that the dividend will be paid on March 14th to holders of DD on record as of February 14th, and market makers may not execute the Feb 63 call trade at 1.22, but this is a very good trade if it works out. Delayed covered calls are a great strategy for lower volatility stocks.
Of course, there's much more you need to know and many more stocks you can capitalize upon each and every day. To find out more, type in www.markettamer.com/seasonal-forecaster
Copyright (C) 2014 Stock & Options Training LLC
Unless indicated otherwise, at the time of this writing, the author has no positions in any of the above-mentioned securities.
Gregg Harris is the Chief Technical Strategist at MarketTamer.com with extensive experience in the financial sector.
Gregg started out as an Engineer and brings a rigorous thinking to his financial research. Gregg's passion for finance resulted in the creation of a real-time quote system and his work has been featured nationally in publications, such as the Investment Guide magazine.
As an avid researcher, Gregg concentrates on leveraging what institutional and big money players are doing to move the market and create seasonal trend patterns. Using custom research tools, Gregg identifies stocks that are optimal for stock and options traders to exploit these trends and find the tailwinds that can propel stocks to levels that are hidden to the average trader.
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