The Dividend Capture Covered Call Collar is an options trading strategy traders can use to protect an existing position that has recently surged into a key resistance level and is about to pay a dividend. Rather than simply taking profits on the share position, paying capital gains tax and potentially missing out on the dividend and future upside, the trader enters into a Dividend Capture Covered Call Collar. This strategy seeks to protect your existing share position, while still participating in some of the upside, including the dividend, for a modest outlay.
The Dividend Capture Covered Call Collar allows you to participate in some of the future gains up to the sold strike price and hopefully the dividend, while being protected by the put position.
Dividend Capture Covered Call Collar – is ideal for participating in future gains and picking up the dividend, while being protected on the downside.
If you are of the opinion that the stock market is likely to sell-off and the share has little chance of breaking the key resistance level, but you still want to hold on to it for the dividend, you could use a Dividend Capture Covered Call Collar options strategy. The Dividend Capture Covered Call Collar strategy is similar to the protective put options strategy in that you also buy put options as protection. The difference is that you will now finance the purchase of those put options with the proceeds from writing an equal number of out of the money call options.
The position will still protect you from losses below the strike price of the put options at minimal cost to yourself, but it will stop the position from profiting beyond the strike price of the short call options should the stock stage a rally, and you could miss out on the dividend if this rally happens before the ex-dividend date. That is, you would miss out on a strong rally in exchange for putting on the protection of the put options for free (apart from commissions of course). Use a Dividend Capture Covered Call Collar when you expect the share price to move modestly higher or pull back significantly from current levels and you want to hang on for the dividend.
Income Trade – Telstra for Dividend
Here at D2MX Advisory we recommended buying Telstra for the dividend yield in January this year, when Telstra was trading at $3.30. This trade was intended to capture the dividend(s), but the share price has subsequently jumped to as high as $3.75, where it met resistance. Recently we’ve had queries from clients worried about the overall state of the markets, and who want to hold on to Telstra for the next dividend while protecting themselves on the downside.
So this week we discuss how you can hold on to your Telstra shares for the dividend, (TLS goes ex-div $0.14 on 22 Aug’12), by utilising the Dividend Capture Collar Strategy**.
Given the turmoil in the eurozone, which has been triggered by the worsening problems with the eurozone financial system and the debt crisis, we considered a Dividend Capture Covered Collar was appropriate for this position. Based on technical analysis you can see from the chart below that the $3.80 resistance level has held for over three years.
So when Telstra was trading around $3.66, we bought protection at $3.60 by buying 360 JUL12 Put for $0.05 and then sold the 380 JUL12 Calls for $0.03. This trade cost 2 cents but we are protected until the end of July expiry down to $3.65 and profits will be capped at $3.80.
Chart 1: Telstra Dividend Capture Covered Call Collar Trade
You can plan and analyse your trade as shown above, using the Derivatives functionality in the Market Analyser 7 software – refer to the Market Analyser 7 Derivatives Video Tutorial for a demonstration.
Trade Note
Telstra (TLS) is still trading between the $3.60 and $3.80 option strike levels, and only time will tell where the share price will end up at expiry. However we are protected until July expiry down to $3.55, but profits will be capped at $3.80**.
The Trade
Options can be used to reduce your risk while still participating in potential profits from a significant move by the underlying stock. The Dividend Capture Covered Call Collar strategy allows you to participate is some of the future gains up to the sold strike price and hopefully the dividend, while being protected by the put position.
Note: due to the low volatility in the Telstra stock, you could have simply just bought the puts, because you are paying approximately 1.5% of the stock value to protect your position down to $3.55 until the end of July, with the prospect of a 4% dividend (plus franking credits) due in August.
Utilise the features in the Market Analyser 7 software to trade plan your options trades for the particular options strategy using your specific trade selection criteria. You will save time and potentially reduce your trading risk.
Contact me at D2MX Trading on 1300 610 024 and I can help you trade, using a number of strategies that will give you the tools to navigate this market and help you boost your returns on investment. Banking stocks like Commonwealth Bank are ideal for this strategy.
I trust that this information has been helpful.
** Please note your may need to refer to a tax professionial regarding eligibility of franking credits.
Michael Hevern
Investment Adviser D2MX Trading
This report was prepared by Michael Hevern. It represents the views and opinions of the author. It is not intended for use by any third party, without the approval of Michael Hevern. While this report is based on information from sources which are considered reliable, its accuracy and completeness cannot be guaranteed. Any opinions expressed reflect my judgment at this date and are subject to change. Contracting Hevern Pty Ltd is a Corporate Authorised Representative No. 408868 of D2MX Pty Limited ABN 98 113 959 596, AFSL No. 297950 (D2MX), and Michael Hevern has been appointed as an Authorised Representative of Contracting Hevern Pty Ltd. Opinions, conclusions and other information expressed in this report are not given or endorsed by D2MX, unless otherwise indicated. The information contained in this Report is General Advice only, as the information or advice given does not take into account your particular objectives, financial situation or needs.
Disclaimer: Using leverage to invest can be a two edged sword, as it can magnify your returns when the stock price rises, but will in turn magnify the losses if the trade does not perform as expected.
See Also:
Options Trading for All Types of Market Environments (Part 1): The Protective Put
Options Trading for All Types of Market Environments (Part 2): The Covered Call
Options Trading for All Types of Market Environments (Part 3): The Covered Call Collar
Options Trading for All Types of Market Environments (Part 4): Stock Repair
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MDS Financial Advisory Services offers general advice on trading options to generate consistent steady income on your investment portfolio. Call 1300 610 024 for further information.
