In Uncertain Times, I'm 'Zooming' Over to This Option
Here's my latest stock pick and my philosophy around covered-call trades in an overbought and risky market.
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As tensions rise in the Middle East, I'm going to outline my main market concerns, my simple strategy for times like this and show you my newest option play.
First, since the U.S. entered the fray and bombed several nuclear sites in Iran on Saturday, the response from Tehran will be a key market worry this week. The biggest concern would be if the straits of Hormuz become a choke point, given the large portion of global oil and liquefied natural gas that is transported through this narrow waterway. A huge spike in oil prices that would accompany that event is the last thing the tepid global economy needs right now. This would be a major setback on the inflation front as well.
I was already cautious on the overall market; this weekend’s escalation overseas just made me more so. But options expiration on Friday boosted my cash balances substantially as many of my covered-call positions expired in the money. Therefore, I have a surplus of dry powder to put to work. This brings me to strategy.
I have a simple philosophy when I execute covered-call orders: I want to target stocks that already sport reasonable valuations and that I would not mind holding over the longer term -- just at lower entry points. Given my current concerns around debt levels throughout the economy, and especially on the governmental side of the ledger, I want these companies to also have balance sheets that are good shape.
If I believe the overall market is undervalued, I will choose option strike prices slightly over the current trading levels of the underlying stock. If I think equities are fairly valued, I will choose a strike price at the current trading level of the underlying target. If my view is that the market is overvalued, I will choose a strike price under the trading level of the shares in question. Lately, I have been exercising most trades with strike prices nicely lower than the targeted stock.
I highlighted one of these newer names to my portfolio using this strategy on Sunday around a mid-cap biopharma name TG Therapeutics TGTX. Here is another equity I added to my portfolio last week using this simple option strategy. Its name is LegalZoom.com, Inc. LZ. The company has a slow-growing and not terribly exciting subscription service, but the it remains solidly profitable. The last quarter saw an impressive increase in both net income and adjusted earnings before interest, taxes, depreciation, and amortization,on a year-over-year basis.
The best part of this investment around the shares is the company's pristine balance sheet. The company has sold off some non-core assets recently and has no long-term debt and is now sitting on more than $200 million in cash. In addition, management just boosted its stock buyback authorization significantly to some $150 million. With a market cap of approximately $1.55 billion, the repurchase program should retire over 9% of the float at current trading levels. In addition, the company delivered over $40 million in free cash flow last quarter. At an annual run rate that gives the stock a free cash flow of just over 10%.
The stock trades just north of $8.50 a share a currently. I used the January $8 call strikes to execute my covered call position. If the equity trades flat or slightly down, I will reap a return in the mid-teens when the options expired. And I call that a nice solid single in a quite uncertain market.
At the time of publication, Jensen was long LZ and TGTX
