DITM LEAPS Covered Calls to Collect Dividends

D

dickey7

An AT&T (T) $20 Jan 2020 call option last price was $13.10 today. Planning on buying 100 shares and selling a contract at/around this price, and hopefully collect the dividends from now until Jan 2020. My math is below, what am I missing - seems to be low risk high return....? If I get exercised early, I would just collect the extrinsic value and roll the strategy out again....

(Not taking into account any extrinsic premium or fees)

Buy 100 shares - $32.60
Sell $20 01/2020 - ($13.10)
Net Capital Inv. - $19.50
Div Paid annually - $2.00
ROI % - 10.26

10% not bad for this level of risk....

Thanks
 
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I assume you mean the Jan 2020 (not June 2020) expiration which I see a spread of $10.30 x $13.15. Share price at time of writing is $32.51, which means the intrinsic value of the $20 strike options is $12.51. When you back this out of the BxA you get the following for extrinsic:

-$2.21 x $0.64

So you need to be able to sell this call for $13.15 - $0.64 = $12.51 to break even (and this is not accounting for the dividend). With a $2 annual dividend, you can just about guarantee being assigned (because extrinsic value < dividend). I'm also skeptical of your ability to sell this call at $13.15.

Therefore, even in a best case, you're going to capture $0.64 of extrinsic while damn near guaranteeing that you're going to forego the dividend. If you are planning to hold T long term anyway, I'd take the $2 dividend over $0.64 extrinsic.

Also note the price of the $20 strike put: $0.36 x $0.44, which of course wouldn't get you the dividend, but you're not going to get it anyway.

In summary, I'd consider selling the puts as you're not going to get the dividend either way and the margin requirements are likely less with your broker than doing a covered call.

I feel like I'm overlooking something as well though as after doing the arithmetic, the numbers aren't what I expected.


EDIT: LOL I see a bid of $12.60 size 1 now on that $20 strike call.
EDIT2: And now I see an ask of $12.70 size 1. So yeah OP, you're not going to get a worthwhile price on the covered call, but you will get an OK price on the short put. If you really want to sell that covered call, put that order back in and I'll take the other side.
EDIT3: I wish I would have taken your $12.70 offer when I saw it instead of editing my post. :(
 
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What you're missing is the ability to sell the call at 13.10. The "real market" on the call is around parity bid/ .15 over parity offer. In your example if you were lucky enough to sell the call for 13.10, you could buy it right back for 12.75.

And you would most likely be assigned on the short call.
 
Yes, correction January 2020 instead of June 2020.
The two concerns I had and were wondering about, the liquidity/ability to get the $13.15 "last" pricing of the option... And how often/likely is it to get exercised early with dividend considerations. Was hoping that since it was out so many years, assignment would be unlikely. The other option is to move up the ladder a bit and not be so deep ITM, but return % goes down as investment goes up.
Thanks Lee... any other insight is appreciated.
 
Last trade is meaningless with deep ITM LEAPs that trade by appointment. It could have occurred hours before current price.

You won't collect a 10.26% ROI. Calls this deep ITM are highly likely to be assigned early due to arbs.
 
I do mostly covered calls (trust accounts and ROTH IRAs). I have had my options get exercised (called away) many times for the dividend. If it's a strong dividend (over 3%) I see it happen more often. The person on the other side of the trade is no dummy...They crunch the numbers!!
 
Call owners tend to sell before ex-div since they won't receive the dividend. If that selling drives the bid below parity, it sets up a discount arbitrage. I'd argue that anyone on the other side who sells their call below parity is a dummy because they could exercise and avoid the haircut.
 
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