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Pocket Additional Income on These Gold Miners Ahead of a Recovery
Friday's close marked the end of the line for our May options contracts. For some of our positions, options expiration allowed us to book the maximum possible gains:
It's great to see our conventional stock trades booking their maximum possible gains as equities continue to drift higher. We're making the most of this environment while still keeping our capital in a safe position with plenty of protection should stocks turn lower.
In contrast to the broader stock market, precious metals, and by extension, mining stocks, have been under more pressure.
We have three different gold miner covered call positions that were NOT closed with Friday's option expiration. This week, we'll need to make adjustments to allow us to continue to generate income on these positions and further protect our capital.
Adding Additional Income to Our Gold Stock Positions
Heading into Friday's option expiration, we had three covered call positions in gold stocks: Agnico-Eagle Mines (NYSE: AEM), the Market Vectors Junior Gold Miners ETF (NYSE: GDXJ) and Barrick Gold (NYSE: ABX).
All three of these stocks closed below the options' strike price. This meant that we were not obligated to sell our stock at the strike price and were able to keep our entire stock position. It also meant that we got to keep the cash that we received for selling the calls -- a free and clear cash benefit to us.
So now we are left holding individual stock positions. I want to use this opportunity to sell additional call contracts against each of these positions, which will do two things for us:
1. We will generate additional income because we are getting paid to sell calls against these positions again.
2. We will add additional protection for our capital by essentially lowering the net cost for these stocks.
Let's take a look at each one individually:
We originally bought AEM at $41.01 and sold the May $40 calls against the stock for $1.45. This lowered our net cost to $39.56. Of course, gold stocks got whacked and AEM has traded significantly lower.
Today, I want us to turn around and sell the AEM July 32.50 Calls for $0.65 per share, which lowers our net cost to $38.91. Of course, if these calls are exercised, we will recognize a loss of $6.41 on the position ($38.91 cost basis minus $32.50 sale price). That's not a pleasant experience, but keep in mind that traditional investors have lost a lot more in this stock.
One other thing to remember is that if AEM stabilizes but is not trading above $32.50 when the calls expire in July, we will be able to turn around and sell a third call position against this stock. For example, we could sell the September $35 calls at $1.50 (an estimate) and get much closer to a breakeven trade.
Market Vectors Junior Gold Miners ETF
In April, we bought GDXJ at $12.15 and sold the May $12 calls at $0.80. This gave us a net cost of $11.35. We picked up GDXJ after the majority of weakness for gold stocks, giving us an excellent price for our position. On Friday, GDXJ closed at $10.46, so we were not obligated to sell our stock at the $12 strike price.
Today, we can sell the GDXJ July 12 Calls for $0.43 against our stock. This will further reduce our net cost to $10.92.
There are a couple of different ways that this position could work out. First, GDXJ could rebound from its current level and we could be obligated to sell our stock at $12 in July. This would not be a bad deal at all as we would realize a profit of $1.08 on the position for a 10% return in just over three months.
Alternatively, GDXJ could stay below this price (it is currently trading near $10.84) and we could have the opportunity to sell more calls against this position in July. I like this potential outcome because the volatility in GDXJ gives us some very attractive option prices, resulting in attractive covered call returns. I'll keep you posted.
I'm particularly excited about this position because of the way it worked out. We originally bought ABX for $19.06, selling the May $19 calls for $0.91. This means that we had a net cost of $18.15 for the position and we were obligated to sell ABX at $20 if the stock was above this level when the May contracts expired.
As it turned out, ABX closed just below this level on Friday, allowing us to keep the stock. Still, ABX is trading well above our net cost for the position, which means that we have a nice gain already built into this gold turnaround story.
Today, I want us to sell the ABX July 20 Calls for $0.97. This will lower our net cost for the stock even further to $17.18. We will once again be obligated to sell ABX at $20 if it closes above that level when the July options expire. But we get to keep the additional $0.97 per share, and if we sell the stock at $20, we will have a $2.82 gain in the position. That's a 16.4% return in less than three months -- not too shabby!
As you can see, the covered call approach can generate some tremendous returns, despite the fact that it is much more conservative than buying and holding stocks outright.
I'm continuing to monitor a number of great opportunities and will be sending you new trade setups throughout the summer.
As always, I'd love to hear your thoughts on these trades. Just shoot me an email at Editors@ProfitableTrading.com and let me know about the profits you are booking!