DIA's 40% buy rating makes it a puts prospect
Barchart.com gives DIA, the ETF that tracks the Dow Jones Industrials index, a 40% buy rating. Investors can make some money by selling DIA cash secured puts.
By Donald E. L. Johnson
Cautious Speculator
DIA’s charts are looking oversold and could snap back at any time, but with the Fed intent on raising rates to cool inflation, the bear market may last for months.
Selling puts for income in a bear market is riskier than selling them in a bull market. Some traders may want to nibble at DIA now. Others are waiting for lower prices when puts prices will be higher.
Selling puts that have bullish buy ratings reduces the risk of selling them in a bear market.
All options trades must be managed. Take small losses by buying back puts, usually on the day of expiration.
Most of the DIA puts trades shown below are relatively low risk because they’re less likely to be assigned.
During February, the best place for investors to hide probably was in 4% yielding money market funds.
Now, options traders may look at DIA’s bearish six-month chart and see an opportunity to make 5% annualized or more by selling cash secured puts.
DIA’s 40% buy rating may look puny, but it is a bullish rating, which is what traders who sell puts for options premiums income want to see when they sell puts, which is a bullish trade.
DIA closed Wednesday at $327. It rose a bit in after hours trading. Support is at from about $325 to the $286 October low. We’re looking at strikes at $300 to $315 a share.
My spreadsheet shows four possible trades.
A cautious trade would be to sell DIA 3.17.23 (15 days) $310 strike puts for about $0.66 a share. That would yield an annualized return on risk (ARoR) of about 4.9% in a taxable account and a higher taxable equivalent annual return on risk in a tax sheltered account.
ARoR assumes the same trade or trades like this would be repeated every 15 days for 12 months.
Selling puts on index ETFs like DIA is less risky than selling puts on most stocks. Its implied volatility is 18.72%. The margin of safety, or discount if the stock is assigned and bought by the puts seller at the $310 strike, is about 5.2% based on the net debit of $309.34. The net debit is the strike price minus the puts options premium.
The probability that the stock will be assigned and sold to the puts seller is measured by the delta, which is a -.10, or about 10%. The probability that the stock will close out of the money (OTM) is a low risk 89%. The lower the delta and the higher the OTM probability, the lower the ARoR.
To get a higher ARoR on a 15-day trade, a trader could sell a DIA 3.17.23 $315 puts option for $1.17 a share on a 100-share puts options contract. The ARoR would be about 8.7%. The margin of safety would be only 3.7%. The MOS is also the 3.7% discount from $327 an investor would get if DIA was assigned at $315.
With a -.32 delta and a 64.2% OTM, the probability that the puts would be assigned would significantly higher. But in this market, that delta doesn’t look so risky.
Short duration trades give traders more control over risks. Longer duration trades give the trades more time to work and more time to manage their risks.
A trader could sell DIA 4.21.23 (50 days) $300 puts (delta -.12, OTM 86.50%) for about $1.57 a share, or $157. That would provide about a 3.5% ARoR if the puts weren’t assigned. If the stock closed below the $300 strike, the investor could keep DIA and collect its 2.22% dividend (based on the net debit of $298.43 purchase price). Then she could sell OTM covered calls until they could be called at a profit on the trade. See the link to my article on “wheel” trades below.
An even risker April expiration trade would be to sell DIA 4.21.23 $315 strike (delta -.26, OTM probability 71.86%) puts for an ARoR of about 10%.
My Trades
On Feb. 28, 2023, VRTX was at $291.96, way above the price I paid for it and down from its recent and record high of $325.19. Because I’m bearish, I sold calls that could be exercised and hand me a good profit on the stock while I am short VRTX 3.17.23 $280 puts.
I sold VRTX 3.17.23 (17 days) $300 covered calls (delta .29, OTM probability 72.4%) for a 1.03% RoR, or about 22% annualized.
I recently had one VRTX puts option assigned at $300. If it is called at $300, I’ll make a nice profit on my other shares and won’t have to worry about an income tax wash sale if I break even on my latest purchase.
Because of options premium income earned on previous and current covered calls and puts trades on the latest $300 purchase, my net debit on those shares is under $296. Analysts’ mean target price is $324 with a high target of $365 and a low target of $250. There are 12 buys and 6 analysts’ holds.
LINKs:
Home Page. See my more than 90 articles on options trading, stocks and watch lists. If you read several of these articles, you’ll learn how my strategies are meant to work. No guarantees. Links to useful web sites are on the lower right corner of the home page. Scroll down.
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Selling in The Money Covered Calls Can Yield Big Annual Returns on Risk. By Donald E. L. Johnson
20 Ideas for Adjusting Your Stock and Bond Portfolio, by Christina Lourosa-Ricardo.
How to Beat Inflation Tax, Bear Market Tax With Dividend Stocks, Covered Calls, Cash Secured Puts, by Donald E. L. Johnson.
Wars Breed Inflation, Rising Interest Rates, Market Turmoil, By Donald E. L. Johnson.
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A video on how to place options trades on TDAmeritrade.com’s Think or Swim trading platform.