As the holidays and New Year approach, trading volume and activity usually slows down. But some strategies still can work because they generally profit over a longer period of time than, say, a swing trade. Here is one such example on a stock that has been slowly climbing higher.
Virgin Media (NASDAQ:VMED) provides entertainment and communications services in the United Kingdom, and apparently business has been good this past year. VMED has beaten its earnings forecasts in each quarter of 2012. The company also has a relatively aggressive stock buyback plan, which can be attractive to investors.
Click to Enlarge Almost without fail for the last six months, Virgin Media stock has been in an uptrend, setting higher pivot highs and higher pivot lows. VMED is trading right at all-time highs, which means there are no previous highs that would act as resistance to keep the stock from moving higher. There is no guarantee the stock will move higher because of this attribute, but many times a stock without resistance will move higher than a stock that is at or will be facing resistance soon.
Virgin Media — $35.61
Example: Buy 100 shares of VMED @ $35.61 and sell the January 37 call @ 45 cents.
Cost of the stock: 100 X 35.61 = $3,561 debit.
Premium received: 100 X 0.45 = $45 credit.
Maximum profit: $184 — that’s $139 (37 – 35.61 X 100) from the stock and $45 from the premium received if VMED finishes at or above $37 @ January expiration.
Breakeven: If VMED finishes at $35.16 (35.61 – 0.45) @ January expiration.
Maximum loss: $3,516, which occurs in the unlikely event that VMED goes to $0 @ January expiration.
The maximum profit potential for this covered call strategy is for VMED to just rise up to the sold call’s strike price (37) by January expiration. The stock moves up the maximum amount without being called away because of the short strike, and profits are enjoyed on the shares and the option premium. The process can be duplicated for the next expiration using either the same 37 strike if the outlook on the stock is neutral, or a higher strike if the outlook and the stock continues to be bullish.
There is about $1.50 difference between the current price and the strike price for the stock to profit, but if the stock moves past $37 well before expiration, the 37 strike call option can be bought back and a higher strike can be sold against the position to avoid assignment. This will allow the stock to remain in the portfolio and also give the position a chance to increase its return.
If the upward trend doesn’t continue and the stock drops in price more than was anticipated, it might make sense to close out the entire trade (stock and short call) to avoid further losses.
As of this writing, John Kmiecik did not hold a position in any of the aforementioned securities.