Dividend Arbitrage

[Div Poacher]

I gave this a try today.

Bought 600 EMN at cost basis 32.24
Wrote calls at 2.3
44 cent dividend within 3 weeks.
This position should return 1.36% for just a 3 week hold.

(I've generally been playing divs "the typical way", buying a few weeks before the div, with the intention of selling near the ex-date. Sometimes I try buying puts close to the ex-date, to catch the "downdraft" of div players exiting the stock. This is often much more than the div payment was.)

Curious if anyone else is trying this with calls, what kinds of results it provides.

There is a risk of assignment before the div payment. Any guess how often the option holder would do this? Although it would be an annoyance, at least it would not cost the div player anything other than lost opportunity.

 

[straddler]

Most option holders will exercise in front of the dividend unless the stock is in free fall. A better play traditionally is to buy or sell deep in the money call spreads for size and hope the other side does not exercise. Careful open interest studies will tell you which strikes.

 

[Trader Pete]

there's nothing wrong with buying for the dividend AND waiting for the calls to expire worthless, but you still play the risk game by not covering your downside. with less risk and exposure, you can lock in much more than 1.36% by writing the put spread or even adding a call spread for more income. just have to play farther away from the market, but will yield you anywhere from 4% - 7% on your initial margin.

[i trade the short side of OOTM index puts AND calls for income - and therefore have a decent total monthly return]

Pete

 

[Div Poacher]

True, the covered call position still carries downside risk below the strike. This stock in particular has been in a 1 year downtrend, and that's why I wasn't willing to hold the underlying naked while waiting for the div payout.

Since the dividends are an anticipated part of the option premium, it still seems like you need some rise in the underlying before writing the call. The market makers are pretty tight with the bids.

 

[Trader Pete]

absoluetly true, just be careful trying to buy dividends, especially when you're saying that the stock is in a downtrend. no dividend (or option premium) is worth it if you're actually losing money on the principal of the trade...

hope it works well!

Pete

 

[wb5983]

Quote from Trader Pete:

there's nothing wrong with buying for the dividend AND waiting for the calls to expire worthless, but you still play the risk game by not covering your downside. with less risk and exposure, you can lock in much more than 1.36% by writing the put spread or even adding a call spread for more income. just have to play farther away from the market, but will yield you anywhere from 4% - 7% on your initial margin.

[i trade the short side of OOTM index puts AND calls for income - and therefore have a decent total monthly return]

Pete

Could you elaborate
? TIA

 

[Div Poacher]

This stock dropped $1 today. I set a mental stop at 30.80 and acted on it. If it can drop that fast in a day, it certainly could be below the strike by expiration, with an ex-div date in between.

Of course, I timed the low of the day perfectly. That figures!

Although, writing that call during the drop to my stop was certainly better than a full, cold loss would have been.

Oh well, on to the next trade.

 

[bungrider]

Quote from Div Poacher:

Of course, I timed the low of the day perfectly. That figures!

F^ck that self-antagonizing murphy's law crap.

You made a good trade. You made a rule, and you followed it. You're ahead of 99% of everyone else here.

Good luck in the future.

-b

 

[Div Poacher]

Well I figured I should get my money's worth from this $500 lesson. This position was instructive in a couple of regards.

1) Option writing is a false sense of security. Even though I knew, going into the trade, that it was possible the underlying could drop quickly... the written option is deceptive cover if you decide to liquidate the position early. (Partly due to "greeks", and bid/ask spread on the call, and the volatility that increases premium value with a sudden drop.) I may as well have just set a 70 cent stop on the underlying, and not bothered with the call.

2) Due to the above, setting up a CC postion (with the sole intent of riding to the dividend) is something you need to really be sure you can "ride to the finish". Since bid/ask and option "greeks" converge on the expiration date, all that's an issue at that point is your broker's fee for the assignment.

3) In-the-money CC positions should be evaluated much like an out-of-the money put... I.e., assume you will have the underlying at expiration. Can you tolerate having it?

4) As a conclusion of the above, the quality of the underlying really matters. Especially in a div-player strategy, where you may sometimes hold to the following dividend. It is self-deceptive to say (as I did here) that this is a weak stock, but I'll try to catch the div "safely" because of the covered call.

 

[Lobster]

Quote from bungrider:



F^ck that self-antagonizing murphy's law crap.

You made a good trade. You made a rule, and you followed it. You're ahead of 99% of everyone else here.

98.99% if you don't mind.