Is a 34.6% Annual Return a Slam Dunk?

The old fox Warren Buffett might still have the midas touch after all. One of his favorite stocks in recent years has been Occidental Petroleum, and it’s been on a tear recently.

A quick look at the chart reveals that the stock has broken out to the upside, above an old yet key resistance level.

But what if the stock pulls back, how can an investor get the best of both worlds, meaning win if the stock goes up and protect themselves on a reversal?

Better yet, how is a 34.6% annualized return possible?

Key Points

• If Occidental Petroleum continues to rise, a covered call strategy wins with both the stock gains and the call options being assigned.
• At this time, a short-term covered call payout for April annualizes at a return of over 34%.
• The strategy offers significant annualized returns and incorporates downside protection, appealing to investors seeking to optimize risk and return through strategic options trading.

How To Win Either Way

With Occidental Petroleum climbing up towards $70 per share, a strike 70 call option can now be sold to lock in some potential gains and limit downside losses.

This scenario isn’t just about the immediate cash inflow but also about strategic positioning. Should the stock price rally beyond the strike price, the investor’s shares might be called away, but they benefit from both the stock’s appreciation up to the strike price and the premium received.

If an April call were sold on a position that comprised 300 shares, it would generate about $273. In May, a strike $70.00 covered call pays out $696 and in June it rises to a $930 premium.

Better yet, the annualized return by writing covered calls in April is 34.67%, in May is 30.16% and in June is 22.23%. This variance in returns illustrates the impact of time decay on options and highlights a critical decision point for investors: shorter-duration calls offer higher annualized returns due to their rapid time decay, but longer durations may provide greater premium income in absolute terms, albeit at lower annualized rates.

To Sell or Not To Sell Calls?

For investors bullish on OXY but willing to cap their upside to mitigate risk and generate income, this strategy is compelling. It offers a blend of income, potential capital appreciation, and downside protection that is particularly appealing in volatile markets.

Moreover, the varying premiums across different months underscore the importance of timing and market sentiment in option trading. By carefully selecting the expiration date, investors can align a covered call strategy with market outlook and income needs, optimizing the balance between risk and reward.