Video #5 in our new 7-part series, featuring Roger Michalski and Bryan Perry.
VIDEO # 5 TRANSCRIPT
Selling Covered Calls Case Study Trade: CyberArk (Cyber Security Stock)
BRYAN: Okay, Bryan Perry here. We are going to run through a real live example here of how to lay on a covered call trade using a stock that’s in favor with traders in today’s market here, where the option premiums are extremely lucrative and where there’s a lot of potential for not just bringing in covered calls but also making some capital gains in the process. I want to start by looking at, we want to go with a hot sector in the market, and one of the hottest sectors is where we have seen a lot of corporate spending is in cyber security software.
We hear daily about the cyber-attacks going on at banks, retail stores, medical systems, and what not so cyber-security spending is huge. And as such that sector has been doing extremely well with companies that are hitting new highs, beating estimates on revenues and bottom-line earnings estimates. So in light of that I want to go with a company here that’s been a real strong performer this sector called CyberArk, C-Y-B-R is the symbol. And by buying into CyberArk we are buying into one of the leading names in technology today on the NASDAQ. Hence, it provides a really great covered call opportunity for those that want to get involved.
Just as a basic example we’ll buy 200 shares of CyberArk at an average cost of $53 per share, for a total amount of $10,600 in cash, or roughly $5,300 in your margin account if that is the way you are managing your covered call account. At the same time we are going to place a limit order to sell 2 calls against those 200 shares of CyberArk. Remember, 100 shares of stock is represented by one contract either in a put contract or a call contract. In this instance we’re selling covered calls, so we want to sell 2 calls representing 200 shares of stock. And we want to go out to the very next month which would be September and use the strike price which is the price at which we are willing to let the stock be called away from us if in fact it closes above that price on a specific day.
In this instance the September expiration is the 18th of September, it’s always the third Friday of every month, month in month out. So for the September contract all contracts expire on September 18th, where CyberArk closes whether it’s above 55 or below 55 is important to note. For our working model we are going to sell 2 covered calls against this CyberArk September 55 call and in doing so we can bring in $3 a contract, which is option language for $300 per contract.
So we can bring in $300 a contract, but since we are selling 2 calls we’re going to bring in $600 in immediate option income into your account that’s going to credit immediately when you trigger that trade. So your account – because you have 2 calls you sold at $300 apiece – you’re going to bring in $600 immediately into your account. That money will stay there or you can use it right away if you care for whatever purpose you want, but what happens there is there are two scenarios that take place.
Come September 18th, if the stock of CyberArk closes below 55 or where you sold those covered calls the 55 strike, you keep 100% of that $600 in your account and you still own the stock of CyberArk. In scenario 2 if CyberArk stock closes above $55 per share, you’ve sold the right to somebody else to take that stock away from you at $55 or above. And 100% of the time if a stock closes above its strike price, the following Monday that stock will no longer be in your account, you keep the premium but the stock will be called away.
Now what’s beautiful above the second scenario is you’ve bought the stock at 53 and it’s getting called away at 55 meaning the stock rallied two points for you in the process. Not only did you keep the $600 from the covered calls you also made 2 points, or $400 in capital gains from the sale of CyberArk at 55. The two $600 call premium, plus the $400 capital gain gives you a total of $1,000 which will be your total gain for holding that CyberArk trade for less than a month.
That $1,000 gain divided by your cost basis of $10,600 is 5% if you’re just keeping the covered call premium of $600. But if in fact you do have your stock called away, and you have $1,000 gain then you’ve made 9.4% as a total return for the month. That’s an extraordinary return and a very strong scenario for a typical situation where you are in a stock like CyberArk, where the likelihood of that happening is quite good in a good market.
As we all know volatility exists, CyberArk moves around a lot like a lot of stocks in the tech space but these are the kinds of stocks that really generate the kind of call premium where, if you time your trades properly, we can bring in a steady $600 in income a month… just on 200 shares of stock with hope that maybe we get called away once a month as well to bring in an extra 4 ½% on our money.
Be as it may, on the low side… if you’re collecting the $600 in premium, you’re bringing around a 5 ½% yield. If we extrapolate that out, folks, over the course of a year the math gets a little bit exciting there. And if you’re getting called away on your position and you have to go back and buy CyberArk again and re-do the trade, then again you’re bringing in better than 5%, somewhere between 5-10%. It’s exciting either way, and at the same time this is just one stock within a stable of 5 to 7, 8 names that we’ll be working with that all can generate this kind of total return.
Thanks very much, and I hope you enjoyed the trade.