At the start of a new year, one of my time-honored trading traditions is to look for longer-term option plays that will position me for profits throughout the coming 12 months.
There’s just something about the markets having a clean slate during the first week of a new year that makes this a particularly exciting time to establish new trades. Plus, there’s a lot of post-holiday clarity that often helps me to get a more-objective picture of how a particular company is going to look a year from now.
If options aren’t yet part of your longer-term trading strategy, today I’m going to help you to keep your resolution for a prosperous new year by not only sharing how I use them, but by giving you some of my favorite trades that you can make today!
Fill 2012 With Year-Round Options Returns
My strategy is as simple as it is effective when it comes to getting ready for options gains. I may hold the stock of a company I’m bullish about and add in some longer-term call options (LEAPS) to juice my returns, or use LEAP put options instead if I’m bearish.
Using LEAPS works particularly well when you can call the stock’s direction but don’t have an exact time frame in which the move takes place. If the timing is right and the premiums are good, it means being able to trade those longer-dated options at a reasonable price while leaving room for some nice upside.
In many instances, you’d do better to buy extra time and capture the move early, rather than running out of time with a shorter-dated trade.
And if you’re buying stocks and selling options, LEAPS offer a nice chunk of premium to offset your share price … letting you own great stocks at an even better price!
So today, here are four longer-term option plays you can trade now that, at today’s prices, could pay off pretty handsomely for you … perhaps long before the New Year’s baby makes his next appearance!
Trade #1 – Netflix LEAP Puts
I’m pretty confident that Netflix (NASDAQ:NFLX) will be in even bigger trouble in a year than it is now. How much more trouble? A lot.
As much as I dearly love the service, the company will not have deep enough pockets to maintain control over as much programming as it needs to survive. Plus, competition from iTunes and Amazon will only increase.
There’s also talk of an unconfirmed SEC investigation going on.
Netflix has said it will have losses in 2012, and I think they’ll be bad. I like buying the NFLX Jan (2013) 62.50 Puts for $15 here. That does, in fact, mean I expect the stock to be trading below $47 by next January ($62.50 strike price – $15 option premium).
At $15 a share ($150 a contract), these puts can be expensive to be sure, but I think it’ll pay off.
Trade #2 — Microsoft LEAP Calls
For those looking for a less-volatile play that will yield a nice return on a safe stock, Microsoft (NASDAQ:MSFT) is the way to go. The company is perfectly safe for the long term and has been in a trading range for a long time, making it a perfect options play.
I might go long the stock here at $26.88, and sell the MSFT Jan (2013) 28 Call for $2. Should the stock get called away, you will make $3.12, or an 11.6% return, plus you’ll pick up its 3.1% dividend while you hold it, for a total return of 14.7% over one year.
And if it doesn’t, then you hold Microsoft at only 9.4 times earnings, less your premium collected. That’s nothing to boo-hoo about!
Trade #3 – Berkshire Hathaway LEAP Calls
I’ve got another play in this category, with a stock you can’t go wrong with. I speak of none other than Berkshire Hathaway (NYSE:BRK-B). Thanks to the availability of the B-class shares, you can trade options on them. (Can you imagine what the option prices would be like on the A-class shares, which are going for more than $116,000 per share?)
I’ve got no problem at all holding Berkshire (again, the B-class shares), and this is a classic case of a strategy I love: buy the stock and sell calls against half the position.
Buying at today’s price of $77.94, and then selling the BRK-B Jan (2013) 82.50 Call for $5.60, yields a 13% return if called away. And if you should be soooo “unlucky” as to have to keep this awful, terrible stock at an effective price of $72.34 … well, remember there are plenty of other investors who would want to be in your shoes!
Trade #4 – Amazon LEAP Calls
You can count me among the folks who think the Amazon sell-off was overdone. As such, I think Amazon (NASDAQ:AMZN) is a buy at $178, but a covered call makes for a perfect hedge.
I’d buy the stock and sell the AMZN Jan (2013) 180 Call for $28.30. If the shares get called away, you have a 16% return. If they don’t, you effectively own the stock at $150, a very reasonable price, thanks to this smart options play!
Lawrence Meyers does not have a position in any securities mentioned at this time.