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June 22, 2011
Edited: June 22, 2011
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It took a little while. In my opinion well worth the wait.
The transaction: PM (phillip morris) 20AUG 62.50 PUT. (Sell-to-open)
The premium received for writing this put is 76.00 per contract. (I leave out commission charges in my examples as some people pay anywhere next to nil to a lot for option commissions. If you pay a lot, sorry, that's your problem).
If, between now and Aug 20, I am assigned the stock, my cost would be $6,250 for 100 shares per contract. At 62.50 PM would be paying a dividend of over 4%. However, my cost basis would be $6250 minus my premium received, ($6250-76 = 6186). Thus, my dividend yield now becomes 4.27% (less commissions). I would be quite happy to own this core stock in my portfolio drawing 4% plus with dividend growth potential. PM has not been as low a 62.50 since February.
The premium or cost of the put, if it goes up or down, is of no concern to me. I am locked in and received the premium of $76.00 per contract. My only obligation is to buy the stock at 62.50 if assigned.
If for some reason, I decide not to take the chance of being assigned, I can also ladder down the puts to a month further out or a lower price strike put. In most cases, by laddering out to a further month put, I would get a net gain. I can do this ongoing is I wanted to.
The reason I decided to go with PM. PM has been in a 52 week uptrend yet not overvalued. This makes it even safer to write a naked put. Second the down action today was caused mostly because the tobacco sector is down due to the US announcement of putting graphic warning pictures on cigarette packs. HOWEVER, this does not apply to PM. PM does not sell cigarettes in the US and hence the US policy has no bearing on PM. The best time to write a naked put is when the stock is climbing, not over-valued, and has a down day for some reason. One gets the highest premium when that condition occurs.
The other reason for PM to be down today is that it went ex-dividend yesterday. One expects most dividend paying stocks to be down for a few days after going ex-div.
The word 'Naked option' could be replaced with the words 'uncovered put' or 'cash secured put'. I consider them all the same. I do not own the underlying stock and hence the term 'naked'. However, one must have the capital to pay for the underlying stock if the strike price is met and one is assigned to buy the stock from the owner of the put. In my case, I'm trading from a tax-deferred account so the cash must be in my account to cover it if assigned. The cash does not have to sit idle however, it can be drawing interest but must be released from that if assigned.
