I Got Richer By Going Broke(r)

When the online brokerage community threw in the towel and eliminated commissions, the initial stock market reaction was very negative. TD Ameritrade got hit the hardest, as it derived the largest percentage of revenues from that source compared with Schwab and E-Trade Financial . Unlike most others at that time I saw AMTD's huge drop as a buying opportunity. I wrote up my bullish reasoning here on Real Money Pro when the stock was really, really cheap. Despite the news, AMTD looked quite undervalued. I held out my opinion for an end of 2020 target price of $56.10 based on its already reduced forward estimate for EPS of $3.30. My recommendation was to buy some shares while also considering selling some Jan. 22, 2022 puts as well as going long some Jan. 22, 2019 call options. The actual option prices available at the time I was writing are detailed below. Selling puts means standing ready to buy some multiple of 100-shares of the underlying stock at a net price of the strike less the put premium received up front. With AMTD at $34.67, the net exercise prices on its LEAP $30 and $35 puts dropped to either $28.00 or $30.60 respectively. AMTD hadn't changed hands at either of those levels since 2016, when earnings per share, or EPS, were on track to hit $1.58 rather than $3.30. Buying calls is usually riskier than owning the same shares outright. There are two reasons for that. First, you need to make up the stagger of the time premium you must pay to buy the calls initially. That makes the break-even point on expiration day higher than the shares fetched on the trade inception price. The second risk factor is the limited time period to achieve the desired share price movement. If the underlying stock doesn't move up by expiration day, you can lose 100% of your invested money with no chance for recovery. A later rebound will do you no good. The good news, though? Potential gains can be huge if things go as hoped for. The table below shows both the break-even points and potential percentage gains that were involved as of Oct. 1. Fast forward 51-days to Nov. 21 and Schwab is in talks to acquire AMTD -- those talks progressed by Monday. Both stocks rose on the news. The numbers below reflect the stock and option prices for AMTD updated as of Nov. 21. How did my originally suggested trades work out so far? From Oct. 1 at $34.67 through Nov. 21 at $48.38 AMTD was up $13.71 per share or 39.5%. Here's what the put options would have netted if the trades had been closed right away at the prices shown. Put writing required no initial cash outlay if done in a margin-type account with adequate free buying power. Return on investment is thus incalculable. Per share profits, however, ran either $4.90 or $6.80 depending on the strike price employed. The quick upturn in AMTD allowed taking 70% to 72.3% of the entire potential gains out to Jan. of 2022 over just the first 51-days. As things turned out, call buyers did even better so far. Those who went long the suggested options could have locked in 121% to 150% cash-on-cash gains in under two months. A $26 billion merger agreement with Schwab is now in the works, but this article is simply meant to show how profitable option trading can be as an adjunct to outright share ownership. Other key takeaways: There are multiple ways to play. Both call buying and put selling can work out well, or badly. Using long-dated expirations don't mean you can't exit earlier. The best time to use options is when sentiment is at an extreme, yet you think it is likely to reverse.

I Got Richer By Going Broke(r)

Unlike most others, I saw AMTD's huge drop as a buying opportunity, and now look at how it turned out.

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