Friday, February 1, 2008

Do You Yahoo?

Unless you've just crawled out of a cave, you know that Microsoft has today made another bid for Yahoo. The proposed deal is worth $44.6 billion which translates into $31 a share for Yahoo. Wall Street analysts hailed the move, but the merger is fraught with anti-trust issues both here and overseas. In other words, it's not a done deal. However, if you think that it's likely to happen, then you might want to pounce on writing a covered call on Yahoo.

As I write this at 10:30am PST, Yahoo is trading around $28 and still climbing. Writing an April 30 call that is currently being bid in the $1.50 - $1.60 range would yield an assigned return of around 12% and an unassigned return of over 5% if the stock doesn't move between now and expiration. I generally only write calls one to two months out max, but in this case, choosing the April call is the right move given that the merger is probably months away. The worst case scenario is that the regulatory hurdles prove too much and the deal falls through. Yahoo shares take a nasty tumble, and you're left with a loss, but at least not as large a one as if you just owned the shares. The covered call provides some downside insurance. The break-even point is the price you paid for the stock less the price of the call.

As I keep mentioning, if you've never traded options, please do not attempt this or any options strategy.


Posted by Dr. Kris at 10:52am PST

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