Weekend Update – October 30, 2016

It’s good to have certainty in all matters of life.

I think.

There’s no doubt that stock market investors like to have certainty, or at the very least they really don’t like uncertainty.

Personally, when it comes to investing and the opportunities present when pursuing the sale of options, I like that intersection between certainty and uncertainty, especially if there is a volley back and forth, but the range is well defined.

That’s because that volley gives rise to more generous option premiums even as the risk may not reflect what is being paid.

Within that context, I’ve liked 2016, other than the brief reaction served up in response to the December 2015 interest rate increase decision by the FOMC.

With 2016 coming to an end in just 2 months and after the past week of corporate earnings, it was still hard to know where the economy was standing and whether the FOMC might have better justification to finally implement another rate increase, as we’ve all been expecting for almost a year.

So far, this most recent earnings season hasn’t provided very much of a pattern of good news on top and bottom line beats and there hasn’t very much in the way of optimistic guidance being given.

What certainty was missing over the past week with regard to the direction of the economy gave way to some certainty on Friday, however.

That morning the latest GDP data was released and there was good reason to believe that the consumer was back and spending money.

More people at work coupled with higher wages for those new jobs is the combination that we’ve been patiently waiting for to have its impact on spending and it may provide more of the certainty that the FOMC members need to move forward.

More of that certainty may come as national retailers begin releasing their earnings reports the week after next. Even as Amazon (AMZN) shares fell 5% as they delivered a rare earnings miss this past week, given the backward looking GDP statistics, there may be reason to anticipate some optimistic guidance from the likes of Macy’s (M), Target (TGT) and Kohls (KSS).

Where there was also considerable certainty was that the stock market may have been spooked a bit by the idea that the upcoming Presidential election results might be changed with news of the discovery of more Presidential “wannabe” e-mails.

I’ve been voting in Presidential elections since 1972. If you had ever asked me whether the investing class would have more confidence in the election of one party over another, I would have had great certainty in the belief that a specific party was consistently favored. That has been the case even when history suggests that economic outcomes may be better with the other party in the White House.

Friday’s response to the injection of uncertainty into the electoral process was swift, but may presage an election results rally as we get ready to close out 2016 and face the increasing certainty of a rising rate environment.

That is, of course, assuming that there isn’t another shoe left to drop over the course of the next 2 weeks. Even as a resurging consumer may now be in a better position to pick up that extra shoe or two, I’m not certain that would be enough to offset the uncertainty of an unwanted surprise.

As usual, the week’s potential stock selections are classified as being in the Traditional, Double Dip Dividend, Momentum or “PEE” categories.

I don’t know whether newly employed workers, or those enjoying a higher minimum wage are going to be the one’s flocking into all of those Coach (COH) stores, although I’m pretty certain they won’t be, I’m always intrigued by Coach as earnings are to be announced.

That intrigue doesn’t extend to trying to understand Coach’s sales strategies or its competitive position in the marketplace. The intrigue is based solely on the opportunity to generate an acceptable rate of return relative to the perceived risk of share ownership.

I almost always have owned shares, on and off, over the past 10 years and have gone through many earnings reports. What Coach hasn’t been able to do over the past few years is to have predictable bounce backs following large earnings related price declines, which it had been able to consistently do earlier in the decade.

What appeals to me about Coach at earnings hasn’t changed over the past 10 years. That is the opportunity to either secure a generous premium for the sale of options or the opportunity to buy shares at what appears to be a bargain price after the occasional disappointment.

Share ownership, even during a period of slow retracement of earnings related losses can be less onerous as long as Coach is able to maintain its dividend.

As long as dividends are on the table, the only stock going ex-dividend next week that may interest me is Intel (INTC). Unlike Microsoft (MSFT) which also just announced earnings and closed at new highs, Intel hasn’t been grabbing very much attention and is coming off its near term highs.

That recent 7% decline since earnings makes entry at this level more appealing, but I don’t expect any meaningful bounce higher in the near term. If shares do stay in the $34-$36 range, I would be more than  happy with the ability to cobble together multiple option premiums and the dividend and wouldn’t mind converting the position into a longer term holding with the expectation that there will be some substantive economic expansion in 2017 that will include the technology sector.

What I like about Intel at the moment, in addition to its upcoming dividend, is that it may be headed into a period of being range-bound. If so, that represents an opportunity to serially collect option premiums. Those premiums aren’t very rich, but that is the price to be paid for a stock that is not likely to break very far out from its range even with the infusion of significant unexpected uncertainty.

While International Paper (IP) isn’t ex-dividend until the following week, it also represents an opportunity that I have frequently sought to exploit.

That is the attempt to repurchase shares that had been assigned away from me recently, but at a higher price. I don’t necessarily mind shares going up and down while in my portfolio, as long as they are actively generating some kind of income, but I much prefer if they are in someone else’s portfolio during the down cycle.

International Paper just reported earnings and it gave an earnings surprise with disappointments on both top and bottom lines. The ensuing fallout was fairly minor, however.

My concern with adding a position is that there may still be some downside to come if you’re the kind who watches chart patterns. There may not be much price support until about $42.50.

For that reason, I might wait a day or two to see if there is any additional downward risk and if there is, or if shares remain at their Friday closing level, I would consider adding shares and then selling an extended weekly option in an effort to capture the dividend and extract some additional time premium from the sale.

In the event of further downside after having made the purchase, I would be comfortable turning the International Paper position into a longer term holding, as the 4.1% dividend makes it easier to wait.

Finally, what’s a week without another consideration of a position in Marathon Oil?

The difference, though, is that this week, while I do like the opportunity offered as it announces earnings, I will not be making any trades to open a new position.

That’s because I already have 3 open lots in Marathon Oil, including two long positions and one short put position.

My limit on any position is 3 open lots and I’m a big believer in having a personal set of rules in place.

I rolled over the short put position last week to an expiration right before the following Monday’s ex-dividend date.

In the event that lot may be assigned, I would take that assignment in order to collect the dividend and in the event that it was going to expire, I would close it out and consider the purchase of shares and immediate sale of calls.

I also had a more deep in the money short put position assigned, so I’m hoping to be able to sell calls on that position to take advantage of the earnings uncertainty enhanced premiums, while still hoping to hold onto the position long enough for the dividend, even as it is only 1.5%.

With earnings this week the options market isn’t expressing very much uncertainty over its price range. The expectation is that the move will be about 6%, which isn’t very different from what it has been for much of the past few months.

Generally, when considering the sale of puts in the face of earnings I look for a strike price outside of the range implied by the options market that will return at least a 1% ROI for the weekly contract.

That won’t be available for Marathon Oil, so I would be more inclined to consider the outright purchase of shares and the sale of calls, but only after earnings and only if the shares do not surge in price.

The intent would be to open a position in advance of the ex-dividend date and I would consider the sale of a slightly longer dated call option that rather than a typical double dipping approach, would use an out of the money strike in an attempt to secure capital gains on shares and secure the dividend, while sacrificing some premium.

If you’re looking for certainty, however, the only certainty that I can offer is that I will not be making this trade.


Traditional Stocks:International Paper

Momentum Stocks: none

Double-Dip Dividend: Intel (11/3 $0.26)

Premiums Enhanced by Earnings: COH (11/1 AM), Marathon Oil (11/2 PM)

Remember, these are just guidelines for the coming week. The above selections may become actionable – most often coupling a share purchase with call option sales or the sale of covered put contracts – in adjustment to and consideration of market movements. The overriding objective is to create a healthy income stream for the week, with reduction of trading risk.