This morning I performed a buy-write of 200 shares/2 call options for Bank of America (BAC) expiring on October 20, 2012. The reason I went the buy-write route is that you can save on commission by executing them together rather than separate. Let's get into the trade. I purchased 200 shares of BAC for $8.10 per share with a commission of $7.95. I also sold 2 $8 strike call option contracts for $0.50 each with $1.57 in commission. It cost me $1,627.95 to purchase the 200 shares and I received $98.43 in the premium from selling the 2 call options. That means the total trade cost $1,529.52 for a per share cost basis of $7.65.
Now let's look at the different possible outcomes.:
(1) The call options expire: If BAC is trading below $8.00 on October 20 the options will expire worthless and that means I'll pocket the premium of $98.43. This would lock in my cost basis on the 200 shares at $7.65 and allow me to sell more call options in the future to earn more income. If this happens I would have received $98.43 in premium to receive $1,600 if the options expire giving me a $98.43/$1,600 = 6.15% return over 64 days.
(2) The call options are executed: If BAC is trading above $8.00 on October 20 the options will most likely be executed meaning my return would be $98.43 (premium) + $2.00 (dividend) - $10 (difference between purchase price and strike price) = $90.43. This would be a total return of 5.55% over 64 days.
As long as BAC's price doesn't take off then this will work out nicely. I don't mind if the share price takes a hit, although I wouldn't really welcome it, because I think that if you give BAC a few years you could easily be sitting on at least a double and probably a triple or more. With this move I have downside protection to $7.66 before I would lose money. So in the long term BAC provides and excellent entry price from my point of view. I know it's not a DG stock but it satisfies my gambling itch which allows me to stay focused on the core DG portfolio. I would prefer for the options to expire worthless allowing me to then write more call options to earn more option premiums and lower my cost basis further on these shares.
The biggest downside to this is that it brings my YOC down to 2.39% and my non-HAL YOC to 2.99%. But if given a few years BAC is able to increase their dividend I'll have a great YOC for that position.