Option Diaries: Apple Call

Option Diaries: Apple Call

   On January 3rd 2019 I purchased a call option on Apple. Apple’s stock had retreated 37.5% from its all-time high of $227.27 a share; from the October 9th 2018 high to the morning of January 3rd’s low price of $142 a share. It is worth mentioning that the spectacular returns that occurred from this trade were influenced by the fortunate timing of the purchase. Reflectively, January 3rd 2019 marked the lowest price point Apple had traded for in the previous 622 days. The first day after purchasing the call option (1/4/2019) the stock jumped 4.27%. I held the option for 69 days as the underlying asset, Apple, climbed 31.46%.

   The option contract was quite attractive to me because I am a strong believer in the underlying asset itself. I have been an Apple shareholder since 2016 and a consumer since the iPod mini released in 2004. Fundamentally, Apple is very strong with robust revenues and profits. The fear of owning the stock, and hence a main reason for its 37.5% decline, revolved around the firm’s reliance on iPhone sales. In its 2018 annual 10-K report, Apple reported 62.8% of total revenue came from iPhone sales during the fiscal year (versus 61.6% in 2017). This heavy dependence on smart phone sales became all the more fear inducing when Apple’s CEO Tim Cook released a letter to investors after the close on 1/2/2019.

   The letter (Link provided)3 revised revenue and earnings per share down for 2019Q1. Cook pointed most of the blame of the downward revision on Greater China. Citing China’s economic slowdown in the second half of 2018, in which China’s 2018Q3 GDP growth rate dipped to “the second lowest in the last 25 years.”1 As a shareholder, active investor and member of the global economy, the letter from Tim Cook was not the inspiring message one would hope for after a very red 2018Q4 in the markets (which many attributed to the FED’s rate hike and the U.S.-China Trade tensions). As an investor in several Chinese equities however, I had already seen the negative impact at the end of 2018 in financial performance of Chinese firms. I attributed the slowdown to the trade tensions and have been looking forward to a future deal. But I regress, Cook wasn’t lying by pointing at China for the less than spectacular forecast, and I appreciated the early revision to the outlook instead of a negative surprise for the upcoming 2019Q1 earnings release.

   The market reacted to Tim Cook’s investor letter by punishing shares a whopping 10% on 1/3/2019 (this was after the fall from 10/9/2018 to 1/1/2019 of 30.7%). The investor letter hadn’t altered my long term view of the company, Apple has a sticky ecosystem of hardware and software that is easy to use. The firm has a proven management team that has been carrying out a strong share buyback and dividend policy. Apple’s cash position allows the firm to acquire or internally develop products or services in almost any industry it finds compelling (self-driving cars, health-information tracking, entertainment etc.). There were also many bullish fundamental indicators I was looking at, for example Apple’s trailing 12 month P/E reached 11.78X on 1/3/2019 and its forward dividend yield was over 2%. With the combination of the factors mentioned above, I believed the worst was over for Apple’s stock.

   Prior to purchasing the option, I looked at what the stock would have to appreciate by in order for the trade to breakeven. This is easily calculated as the strike price plus the premium (cost) to buy the contract: in this case the trade demanded a 13.52% return in APPL stock prior to the expiration of the contract in order to breakeven given the cost of the contract.

   The chart above shows where I bought and sold this call option. With the Apple event around the corner, I decided to sell the call option on 3/13/2019. This sale was executed because of two main factors. First, I wanted to avoid the chance of a negative price movement from a disappointing product/service reveal on 3/25/2019. Secondly, the option had appreciated significantly in value and since I also held Apple shares in my portfolio, Apple had become too large a position for my comfort level. I do not allow positions to get above 15% of my portfolio (that is where I begin trimming the position so that it is a smaller portion of the overall portfolio).

   The event ended up being generally well received. The firm revealed Apple News+ (a magazine and news subscription service), Apple Arcade (a subscription game service that works on across Apple devises), Apple Card (a titanium credit card paired with advanced spending tracking) and teased a Fall release of Apple TV+ (Apple’s streaming service).2

   I am planning to continue to hold my Apple shares for the foreseeable future and believe the firm’s best days are still to come.

  1. https://www.sec.gov/Archives/edgar/data/320193/000032019319000002/a8-kexhibit991122019.htm
  2. https://www.apple.com/apple-events/march-2019/
  3. https://www.apple.com/newsroom/2019/01/letter-from-tim-cook-to-apple-investors/

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