When the BP oil spill happened, the stock dropped like a bomb. BP is a really big company, so I figured that they would fix the leak quickly and the stock would go back up. So I sold puts on both BP and RIG, the two companies most affected. By selling puts, I agreed to purchase the stock at a certain price. In the case of RIG that price is $60. In the case of BP that price is $47.50. (see Merv’s Trades for details).
As is so often the case—I was probably right, but there’s the question of timing.
In fact, the leak got worse and the stock of both companies dropped much further than I expected. When it about hit near bottom, I sold two more puts to improve my position. I sold two more puts on RIG at $45, and puts on BP at $30.
I took in about $4,000 in premiums. Today, July 17, RIG is at $52, and BP is at $37. So it looks as if I will be able to keep the premium on the second set of trades, about $2,000, but I’m at risk of having to buy 200 shares of each stock at prices above the current market price. (I’ve already been PUT the BP stock, so I had to buy it at $47.50). At today’s prices that would put me down about $2,000 in market value on the BP, ($47-$37=$10 times 200 shares) and $1,600 on RIG ($60-$52=$8 times 200). But I collected in a total of over $2,500 in premiums, so—surprisingly—I’m only down about $1,000. And now that I’m being put the BP stock, I can sell calls against it and garner more premium, even though I own it at a cost considerably higher than today’s market value. That will put me about even within 3 months, even if the stocks don’t continue to go up.
I don’t mind owning these two stocks and selling calls against them. I think both are excellent companies, and the price will continue to climb as the memory of the problems fades, and people once again look at the value of the companies.
But in hindsight, with more research into the issues of liability, I would have only sold puts on RIG. Transocean has indemnity agreements with BP so most of the losses will fall on BP, and very little on Transocean (RIG). Live and learn.
merv
