Only presentation that illustrates how the how selling calls is superior to early exercises

1. .
Comparison of Selling Calls
against Apple ESOs
with the strategy of
Premature Exercise, Sell
and Diversify

2. .
Comparison of Selling Calls with Early Exercise
and Diversify
Assumtions:
1. You own 1000 Apple Computer Employee Stocks Options to buy stock at
$300 that have just vested after two years.
2. Apple is trading for $561 on June 1, 2012
3. The calls that expire in Jan 2014 have 19 months to expiration.
4.The January 2014 calls with an exercise price of $600 are trading for $9380
each.
5. You have $60,000 of loss capital carry fowards from previous other stock
positions that were liquidated.
5. You have a choice of selling 6 calls or making early exercises and sell the
stock and diversify into the S & P 500 trading at 1278 on June 1, 2012.
6. You are a resident of California.

3. .
If you exercise the 1000 ESOs and sell the stock at $561 you will net after tax
approximately the following amount after forfeiting 100% of the "time value".
$561,000 - $300,000 x 55% = $143,550.
You would have terminated your alignment with the company 100%. Effectively
you have made a bet against Apple and in favor of a bet on the broad market.
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If you sell 6 calls you will still own the 1000 apple ESOs and receive $56,280
from the call sales and retain 100% of the remaining "time value" in the ESOs.
You would have terminated about 40% of your alignment with Apple
shareholders and still assume a substantial risk in Apple stock.You will
however, have no broad market risk.
If the stock is below $600 on Jan 20, 2014 the net gain on the sale of the calls
would be $56,280, because you would be able to deduct the loss carry forward
against the gain from the options sale.
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If both the S&P 500 and Apple were unchanged on Jan 2014, the value of the
sell calls positions would be $56,280 plus the value of the unexercised ESOs.
The value of the S&P 500 position is $143,550.

4. If both positions were, down 25 % in Jan 2014 the following would be the result.
Apple would be trading at $420.75 and the ESOs would be valued at $161,000,
plus there was an after tax gain of $56,280 on the calls sold.
.
The S&P 500 would be trading at 958 making the $143,550 have a value of
$107,662.
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If both went up 25%, Apple would be trading at $701.25 making the ESOs equal
$401,250 plus the remaining time premium of $14,000 but the sale of the six calls
would have caused a loss of $3720.
The $143,660 in the S&P 500 index would equal $179,575.
As can be seen in all of the circumstances outlied above, the sale of calls versus
premature exercises, sell and diversify is far superior.
If the call seller wished to protect against extreme moves he/she could buy a small
amount of puts and sell fewer calls. This would reduce the profits if the stock made
just small percentage moves. Ajustments to the positions, after the inital trades,
can also be made to create even better results that those shown.

5. .
In the above four slides we demonstrated a choice of management strategies
for an employee holding ESOs on Apple stock on June 1, 2012 with APPLe
trading for $561.
Since then, Apple stock has increased $21 to $582 on June 22, 2012
The Jan 2014 calls with a strike price of $600 are down $.80 trading at $93.
The S&P 500 has increased from 1278 to 1335 or 4.46%, equally an increase
of $6402 for the diversified $143,000
The value of the 1000 ESOs have increased about $19,000.
So the advantage of the sale of the 6 calls versus the early exercise sell and
diversify is $13,000 in just 3 weeks, with less total risk. I will keep readers
appriaised of the results periodically.

6. .
At 11: A.M. CST, July 3, 2012
Apple is trading at $599.50 up 38.50 x 1000 = $38,500 for the 1000 shares.
The six calls are trading at101.50 therefore losing 7.80 x 6 = $4,680
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The $143,000 that was "diversified into the
S& P 500 had increased 7.6% or $10,860
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So the strategy of betting against the company stock and betting on the broad
market better known as, "early exercise, sell company stock and diversify" would
be far behing the strategy of selling calls by the following amount in just one
month.
($38,500 x 92%) - $4,680 - $10,860 = $19,880
This is just a further example of Wealth Managers having two choices
1. advise selling calls and/or buying puts
2. Violate their Fiduciary Duties and advise premature exercises, sell and
diversify.

7. .
On July 6, 2012, Google closed at $605.88 up $44,880 on the 1000 shares
from $561, making the employee stock options to buy 1000 shares at $300 up
$41,289.00 in value from June 1, 2012.
The 6 calls that were sold for $9380 each on June 1, 2012 were trading for
$10,400 each giving a loss of $6120 in total for the 6 calls sold.
The diversified investments on the S&P 500 index was up 6% from the June 1,
2012 price of $1278 to $1354.80, making the value of the diversified
investments up $8580.
So below is how the results compare so far.
A) Covered calls versus ESOs gives +$41,289 - $6120 = + $35,169 for the
long ESOs and short 6 calls since June 1, 2012
B) Diversified investments + $8580 since June 1, 2012
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The gain from selling calls is almost 300% more than early exercise, sell and
diversify.

8. .
On the close of July 13, 2012, Apple was trading for $604.97 giving an increase
of $40,012 on the 1000 ESOs.
The Jan 2014, calls with ex.pr. of $600 were trading for $102.70, showing a
loss of $5340 on the 6 calls.
The net equals $40,012 - $5340 = $34,672.
On the other hand, the gain on the diversified porfolio is $8946. Making the
difference $34,672 - $8946 = $25,726.

9. .
At 9: 44 EST on July 20, 2012, Apple was trading for 613.
The six Jan 2014 calls that were sold for $9380 each were trading for $105.00,
giving a loss of $6900.
The value of the 1000 ESOs with the exercise price of $300.00 increased
approximately $48,000. The net increase in value is $ 41,100.
Had the 1000 ESOs been exercised, the stock sold and the net diversified,
there would have been an investment in the S&P 500 of $143,500, which has
increased by $10,100.
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So the comparison of the two strategies show the sell calls strategy ahead of
the early exercise, sell , and diversify strategy by $31,000.00 on July 20, 2012.
And there is still a substatial alignment between the grantee and the company.
The early exercise, sell and diversify strategy is essentially a bet against the
company and bet on the broad market with the money remaining after forfeiture
of "time value" and paying an early tax.

10. .
On July 31 at 12:00 Central Standard Time, Apple stock was trading for $609.49.
The calls that we sold are trading at $98.30. This makes the gains on the stock to
be equal to $48,490 and the gain on the ESOs since the stock was at $561 to be
equal to $44,126.
The loss on the 6 calls sold would be $2700 making the net gain equal to $41,
426.
The gain on the two Apple positions is about $30,000 more than the gain from the
S&P 500 Index from when it was trading for $1278.
The difference is much greater with the sell calls strategy.

11. .
On August 6, 2012 at 10:07 CST.
Apple was trading at $622.05 and the Jan 2014 calls with a $600 ex.pr. were
trading for $104.35.
So the stock is up $61,000 and the 1000 ESO are valued at approximately
$56,700 higher than when we sold the 6 calls at $9,380 each.
Therefore the Apple positions are valued as below:
ESOs are up $56,600
Calls are up $6,330
Net gain on the Apple covered write is $50,270
But the diversified position is up $14,000
The selling calls versus the ESOs have earned $36,270 more than the
diversified position and with less risk.

12. .
On August 13, 2012 at 9:56 A.M. CST. Apple was trading for $627.15, and the
exchange traded calls that have a strike price of $600 expiring in January 2014
were trading at $104.80.
The SPX 500 was trading for 1400.
So the 1000 shares were up $67,150 from $561 with the ESOs to buy the
stock at $300 going up $61,700. The the six calls that were sold are losing
$1100 each or $6600 in total. This makes the gain on the summed Apple
positions equal to $55,100.
On the $143,550 that was invested in the SPX 500 after exercise and sale,
there is a 9.7% gain equal to $13,700.
So the gain for the hedged Apple positions were better off compared with the
early exercise sell and diversify strategy by $41,400. These are the results with
Apple stock up about 11% and the SPX 500 up about 9.7%.
Why would anyone promote the early exercise, sell and diversify strategy if they
have the interests of the clients as primary because it certainly is not in the
client's best interest to do so.

13. .
On August 31, 2012, Apple closed at $665.24, showing an increase of $104.24
since we started the camparison. The ESOs with an exercise price of $300, with
an average delta of .96, increased about $99.50.
The January 2014, $600 calls last traded at $135.10, giving a $41.30 loss to the
sellers of the calls at $93.80.
The SPX 500 increased about 10%, giving a $14,500 increase to the "diversifier".
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So the 1000 ESOs increased in value by $99,500 and the sale of the 6 calls
showed a loss of $24,780. So the summed gain is $74,720
On the other hand the SPX 500 made only $14,500.
Therefore the difference is $60, 220.00 to the seller of calls versus the Apple
ESOs compared to the premature exercise, sale and diversify strategy. And the
risk was less with the Apple positions than with the "diversified" SPX 500.

14. .
On November 1, 2012 Apple closed at $576.80 after dropping over 19 points,
which is just 15.8 points higher than when the comparison began (i.e. stock
was $561). The 6 Jan 2014 calls with exercise preice of $600 that were sold at
$93.80 are trading at $71(i.e. $22.80 lower).
So the 1000 shares of stock is up $15,800 making the ESOs up about $13,000.
And the six calls give a profit of $13,680, which because the grantee has capital
loss carry forwards of $60,000, the gain is tax free. How do these results
compare with the diversified S&P 500 index.
Well, the S&P 500 is up 10.6% making a profit $15,453.
Still the performance of the sale of six calls versus the stock is superior to the
diversified positions. This is true when the S&P 500 was 10.6% higher and
Apple was 2.8% higher.
So hedging will often out-perform exercising, selling and diversifying, even
when the stock performs worse that the "diversified" investments
John Olagues.......................................................Olagues@gmail.com