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 LEAPS Call Growth Enhancement Program
For those investors looking for additional growth potential WALT ST offers a LEAPS Call Growth Enhancement Program. This program is typically implemented only in Aggressive Growth portfolios. Investors must meet more stringent suitability requirements and must qualify for speculative option writing in order to use this program.
Summary: This strategy consists of buying a LEAP Call option. WALT ST implements this strategy when wanting a chance to participate in the underlying stock's expected appreciation during the term of the option. If things go as planned, the WALT ST will be able to sell the Call at a profit at some point before expiration.
Outlook: When buying a LEAP Call option, WALT ST (the Call buyer) is definitely bullish in the near term, anticipating gains in the underlying stock during the life of the option.
WALT ST’s long-term outlook could range from very bullish to somewhat bullish or even neutral. If the long-term outlook is solidly bearish, another strategy alternative might be more appropriate.
 Motivation: WALT ST buys Calls as a way to profit from growth in the underlying stock's price, without the risk and up-front capital outlay of outright stock ownership. The smaller initial outlay also gives WALT ST a chance to achieve greater percentage gains (i.e., greater leverage).
Description: A Long Call strategy typically doesn't appreciate in a 1-to-1 ratio with the stock, but pricing models often give us a reasonable estimate about how a $1 stock price change might affect the Call's value, assuming other factors remain the same. What's more, the percentage gains relative to the premium can be significant if the forecast is on target.
WALT ST (the Call buyer) plans to resell the option at a profit and is looking for suitable opportunities to close the position out early: usually a rally and/or a sharp increase in volatility. WALT ST sets price targets and re-evaluation dates. Timing is important for this strategy, because all value must be realized before the option expires. Being right about an anticipated rally does no good if it occurs after expiration.
If the gains fail to materialize, and expiration is approaching, WALT ST is ready to re-evaluate. One choice is to wait and see if the stock rallies before expiration. If it does, the strategy might generate a nice profit after all. On the other hand, if a quick turnaround starts looking unlikely, it might make sense to sell the Call while it still has some time value. A timely decision might allow WALT ST to recoup some or even all of the investment.
Max Loss: The maximum loss is limited. It is incurred if the investor still holds the Call at expiration and the stock is below the strike price. The option would expire worthless, and the loss would be the price paid for the Call option.
Max Gain: The profit potential is theoretically unlimited. The best that can happen is for the stock price to rise to infinity. In that case, the investor could either sell the option at a virtually infinite profit, or exercise it and purchase stock at the strike price and sell it for 'infinity'.
Profit/Loss: The potential profit is unlimited, while the potential losses are limited to the premium paid for the Call.
Although a Call option is unlikely to appreciate a full dollar for every dollar that the stock rises during most of the option's life, there is in theory no limit to how high either could go. Considering the limited size of the investment (i.e., premium), the potential percentage gains can be substantial. The caveat is that all gains must be realized by the time the Call expires. Generally speaking, the earlier and sharper the increase in the stock's value, the better for the Long Call strategy.
All other things being equal, an option typically loses time value premium with every passing day, and the rate of time value erosion tends to accelerate. That means the Long Call holder may not be able to re-sell the Call at a profit, unless at least one major pricing factor changes favorably. The most obvious is an increase in the underlying stock's price. A rise in volatility could also help significantly by boosting the Call's time value.
Volatility: An increase in implied volatility would have a positive impact on this strategy, all other things being equal. Volatility tends to boost the value of any long option strategy, because it indicates a greater mathematical probability that the stock will move enough to give the option instrinsic value (or add to its current intrinsic value) by expiration day.
By the same logic, a decline in volatility has a tendency to lower the Long Call strategy's value, regardless of the overall stock price trend.
Time Decay: As with most long option strategies, the passage of time has a negative impact here, all other things being equal. As time remaining to expiration disappears, the statistical chances of achieving further gains in intrinsic value shrink, too. Furthermore, the cost-to-carry savings offered by a long Call strategy, versus an outright long Stock position, diminish over time. (See the discussions on Synthetics and Put-Call Parity.) Factors such as these erode the Call option's time value.
Once time value disappears, all that remains is intrinsic value. For in-the-money options, that is the difference between the stock price and the strike price. For at-the-money and out-of-the-money options, intrinsic value is zero.
Assignment Risks: None. The investor is in control.
Expiration Risk: Slight. If the option expires in-the-money it may be subject to automatic exercise. Since this investor did not originally set aside the cash to buy the stock, an unexpected automatic exercise could be a major inconvenience and require urgent measures to come up with the cash for settlement.
Every investor carrying a long option position into expiration is urged to verify all related procedures with the brokerage firm: automatic exercise minimums, exercise notification deadlines, etc.
Additional Comments: WALT ST will monitor the underlying stock and keep track of dividends.
On an ex-dividend date, the amount of the dividend is deducted from the value of the underlying stock. That in turn puts downward pressure on the Call option's value. Although the effect is foreseeable and usually gets factored more gradually, dividend dates are still a consideration in deciding when it might be optimal to close out the Call position.
If the holder of an in-the-money Call decides to exercise the option, after all, and if a dividend has been announced, it may be optimal to exercise the Call before the ex-dividend date so as to capture the dividend payment.
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