Bank of America (NYSE:BAC) is rallying ahead of next week’s earnings report, but I wouldn’t be too quick to attribute the gains to investor excitement over the company’s fundamentals. Banks have been a bore for months and entered October oversold and due for some mean reversion. Sprinkle in a broader market hyped up on stimulus hopes, and voila! you’ve got a modest ramp in Bank of America.
Unfortunately for the optimists, the stock’s chart leaves much to be desired, and that’s before taking into account the coin-flip nature of bets directly ahead of a quarterly report.
Still, if you’re going to swing into the number, it will help to know what’s priced in and which options strategies give you an edge. We’ll dig into both below.
BAC Stock Chart
The price action does have a few redeeming qualities. For starters, the general trajectory of its meandering has been higher. So says the 50-day moving average, which has been rising gradually ever since May. We’ve now fully recovered from last month’s sharp drop and are on the brink of pushing back above the 50-day. Tuesday registered an ominous bearish engulfing candle on high volume, but we’ve quickly overcome it over the past two trading sessions.
You have to be impressed by how quickly buyers returned. A break above the descending 200-day moving average will be the ultimate tell that the long-term trend is back to bullish.
The saving grace for Bank of America’s neutrality has to be the dividend. Unlike some companies, which saw their profits disappear and dividends suspended in the aftermath of the March massacre, Bank of America has been able to maintain its positive earnings. As such, the quarterly 18 cent payout has held steady, and translates into a tasty 2.85% yield — or roughly double the S&P 500’s 1.5% yield.
At that amount, it provides a very compelling reason to stick with the stock despite its woeful underperformance in recent months.
Volatility Expectations
We usually see a cyclical rise and fall in implied volatility surrounding earnings where premiums expand in anticipation of the event and fall afterward. But not this year! March threw a monkey wrench into everything, making it more challenging to judge just how cheap or expensive premiums are. With the implied volatility rank at only the 20th percentile, we haven’t seen much of a bump ahead of next week’s report.
We can use the value of the Oct. 16 $25-strike straddle to determine the magnitude of the expected price jump. At $1.30, its cost translates into a move of 5.2% between now and next Friday. Given that we still have six full trading sessions, that doesn’t seem like traders are baking in much excitement.
Juice Your Cash Flow With Covered Calls
I don’t see the need to get overly fancy here. If you like the idea of acquiring shares either before or after next week’s announcement to target the beefy dividend, then at least couple the stock purchase with a covered call to reduce cost and enhance your return on investment.
If you buy the stock for $25.25 while selling the Nov. $28 call for 45 cents, you’ll create a covered call for a net debit of $24.80. That represents your max loss and breakeven. The 45 cents received represents the potential cash flow and downside protection. You can profit on the stock up to $28. Then you’re obligated to sell it. The max gain, then, is $3.20, which translates into a return on investment of 13%.
That leaves plenty of upside for the next 42 days if Bank of America decides to trend higher finally.
On the date of publication, Tyler Craig did not have (either directly or indirectly) any positions in the securities mentioned in this article.
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