Market Neutral Strategy

My Option Income Strategy can also be traded as a market neutral strategy by purchasing both a LEAPS call and put option and selling a one month call and put option. This sets up a non directional income stream. Let’s take a look at a market neutral trade I initiated today. My brokerage confirmations below show that I purchased 10 Foster Wheeler (FWLT) Jan 09 45 calls which expire in 11 months for 30.69 points and sold 10 Foster Wheeler March 65 calls for 8.31 points which expire in one month. The cost of this spread was 22.38 points or $2,238.

                                     Buy 45-Strike call at   30.69

                                     Sell 65-Strike call at    -8.31

                                             Equals cost of        22.38

Foster Wheeler stock was trading at 69.90 when I initiated this trade. The 65-Strike call that I sold was an in-the-money call with 3.41 points of time value. At option expiration in one month the 65-Strike call will lose all time value and the 3.41 points of time value will convert to $341 of profit per contract regardless of the price movement of Foster Wheeler stock.

  Current Stock Price of 69.90 - Call Strike Price of 65 = 4.90 Intrinsic Value

Option Price of 8.31 Minus Intrinsic Value of 4.90 = Time Value of 3.41

$3,410 Potential Income on $2,238 Investment

At March option expiration I will rollover the short March call to an April call and will repeat this process each month until the LEAPS option expires. This will allow me to collect approximately $3,410 of time premium ($34,100 for 10 contracts) over the remaining 10 month life of the LEAPS option.

 I also purchased 10 of the Foster Wheeler (FWLT) Jan 09 100 puts which expire in 11 months at an average price of 34.43 points and sold 10 Foster Wheeler March 75 puts at an average price of 7.79 points which expire in one month. The cost of this spread was 26.64 points or $2,664.

                                     Buy 100-Strike put at  34.43

                                     Sell   75-Strike put at    -7.79

                                             Equals cost of            26.64

With Foster Wheeler stock trading at 69.90, the 75-Strike put that I sold was an in-the-money put with 2.69 points of time value. At option expiration in one month the 75-Strike put will lose all time value and the 2.69 points of time value will convert to $269 of profit per contract regardless of the price movement of Foster Wheeler stock.

 Put Strike Price of 75 - Current Stock Price of 69.90 = 5.10 Intrinsic Value

Option Price of 7.79 Minus Intrinsic Value of 5.10 = Time Value of 2.69

$2,690 Potential Income on $2,664 Investment

At March option expiration I will rollover the short March put to an April put and will repeat this process each month until the LEAPS option expires. This will allow me to collect approximately $2,690 of time premium ($26,900 for 10 contracts) over the remaining 10 month life of the LEAPS option. Market neutral spreads are a great way to profit during the current volatile and unpredictable markets.

FWLT Market Neutral Option Trade Confirmations