Chevron Corporation – Conservative Bullish Option Strategy

Summary

  • I am of the opinion there is still more upside to Chevron Corporation’s share price.
  • This conservative option strategy provides you with the opportunity to augment your dividend income while minimizing risk.
  • You own the underlying shares during the term of the option contract so you continue to receive your quarterly dividend.
  • This article presents a couple of Out-Of-The-Money Covered Call trades I initiated.

Introduction

In this recent article I provided a recap of the options trades I have placed. I have also very recently published this article in which I provided a couple of bearish option trades you can consider if you are in agreement that the company’s shares are richly valued and are susceptible to a pullback.

In today’s article I discuss a conservative option strategy in which I think there is a very reasonable probability that the underlying shares will rise in value.

Chevron Corporation (CVX) is a company in which I have held shares for several years (shares are held in the FFJ Portfolio) and I know several readers of this blog also own shares.

While CVX’s share price has certainly experienced a rapid run-up following its pre-Christmas 2018 low of ~$100 I think there is a reasonable probability the share price has further room to rise.

If you are in a similar situation as me you might not want to part ways with your CVX shares. You are, however, interested in potentially generating more income from your shares.

If the current turmoil in Lybia escalates I envision oil and gas prices will rise. In addition, we are fast approaching the summer months in which oil and gas prices typically experience a bump-up as traffic volume increases.

At the same time, you might not be concerned if CVX’s share price tumbles if we get a broad market correction since you intend to hold these shares for the long-term. Personally, I have no intention of selling my shares and if CVX’s share price were to plummet I would likely acquire more shares.

Given my outlook vis-à-vis CVX, I have just initiated 2 different Out-Of-The-Money Covered Call trades; CVX shares are currently trading at $126.68.

Before looking at the Out-Of-The-Money Covered Call trades I executed please keep in mind that as the seller of Call contracts I run the risk of the buyer exercising their option before expiry. According to the Chicago Board Options Exchange (CBOE):

  • 10% of option contracts are exercised;
  • 55% - 60% of option contracts are closed out prior to expiration;
  • 30% - 35% of option contracts expire worthless (Out-Of-The-Money with no intrinsic value).

These statistics suggest there is a low probability that the purchaser of the Call contracts will exercise their right to purchase CVX shares under the terms of the option. In all likelihood, I will either close out the contracts I wrote or the contracts will expire worthless.

September 20, 2019 $130 Calls

On April 8, 2019 I wrote 3 September 20, 2019 calls with a $130 strike price. This generated $3.90/share or gross proceeds of $1,170 (trading fees are nominal and are excluded in my calculations).

CVX shares trade at $133.90

I could let the options expire and would BREAKEVEN at this level ($130 + $3.90 option premium collected).

CVX shares trade below $130

In this scenario I MAXIMIZE my profits. The holder of the option granting them the right to acquire my shares will not exercise their option if they can purchase shares on the open market for less than $130. I would, therefore, retain my entire $3.90/share option premium.

CVX shares trade between $130 and $133.90

CVX shares could end up within this range and I would still generate a profit even though I would need to sell my shares at $130 (assuming I do not close out my position before the shares are called away). This is because I collected $3.90/share in option premium when the trade was initiated.

CVX shares trade above $133.90

If CVX were to trade at $135, for example, I would need to sell my shares for $130. I collected $3.90 in premium so I would incur a $1.10/share loss ($130 + $3.90 - $135). The loss is not truly a loss if I take into consideration that my average cost is well below the prices discussed in this article.

To avoid such a predicament, I would close out my position by buying back the calls I wrote. I would likely write new Covered Calls from which I could cover the cost of closing out my $130 September 2019 calls.

September 20, 2019 $135 Calls

I also wrote 9 September 20, 2019 calls with a $135 strike price through another account. This generated $2.21/share or gross proceeds of $1,989 (trading fees are nominal and are excluded in my calculations).

CVX shares trade at $137.21

I could let the options expire and would BREAKEVEN at this level ($135 + $2.21 option premium collected).

CVX shares trade below $135

In this scenario I MAXIMIZE my profits.

The holder of the option granting them the right to acquire my shares will not exercise their option if they can purchase shares on the open market for less than $135. I would, therefore, retain my entire $2.21/share option premium.

CVX shares trade between $135 and $137.21

CVX shares could end up within this range and I would still generate a profit even though I would need to sell my shares at $135 (assuming I do not close out my position before the shares are called away). This is because I collected $2.21/share in option premium when the trade was initiated.

CVX shares trade above $137.21

If CVX were to trade at $140, for example, I would need to sell shares for $135. I collected $2.21 in premium so I would incur a $2.79/share loss ($135 + $2.21 - $140). Once again, the loss is not truly a loss if I take into consideration that my average cost is well below the prices discussed in this article.

To avoid such a predicament, I would close out my position by buying back the calls I wrote. I would likely write new Covered Calls from which I could cover the cost of closing out my $135 September 2019 calls.

Final Thoughts

As indicated in the Introduction of this article I know some readers own CVX shares and they are relatively conservative investors. I am also a conservative investor, and therefore, I periodically employ an Out-Of-The-Money Covered Call strategy when I:

  • am bullish on the stock and would like the opportunity to participate in a potential rise in the stock’s price;
  • wish to continue to collect the dividend during the term of the option;
  • want to generate additional income without having to liquidate shares.

If you hold CVX shares in taxable accounts like I do, you may not want to let the Call options be exercised otherwise you will general capital gains on which you will incur a tax liability. I will avoid this by closing out my position before the holder of the option contracts exercises their right to purchase my shares.

I wish you much success on your journey to financial freedom.

Thanks for reading!

Note: I sincerely appreciate the time you took to read this article. Please send any feedback, corrections, or questions to [email protected].

Disclaimer: I have no knowledge of your individual circumstances and am not providing individualized advice or recommendations. I encourage you not to make any investment decision without conducting your own research and due diligence. You should also consult your financial advisor about your specific situation.

Disclosure: I am long CVX.

I wrote this article myself and it expresses my own opinions. I am not receiving compensation for it and have no business relationship with any company whose stock is mentioned in this article.