Mik, The point for this trade, as with my entire system, is to make money in a low risk way. I think Arco in the mid-60s, with takeovers going on in the industry and an 11+ call premium, is a low risk, high return trade. Ditto for the short puts, though I can't do them in my IRA.
If there is a takeover, the calls are simply converted to the new co's calls. Check out Citigroup for an example. The expiration date does not change.
Yes, you have limited the upside, but you have also reduced the downside, not an unimportant consideration in this bubble market.
The strategy has three possibilities:
1. Stock goes up rapidly. The call will move up less, so you unwind early and get a huge annualized return. This is the best scenario.
2. The stock declines. You either let the calls expire or you buy the back and are now holding an even cheaper, high yield stock with a takeover pretensions. Worst case.
3. The stock does nothing. You make about 11% a year from the premium plus the healthy dividend, a great income play, if somewhat on the dull side. This has never happened to me, but it could.
I don't consider opportunity costs on a takeover in my income portfolio as I also own the stock straight in my cap app portfolio. Income is a different game.
I do not know about Trans Canadian. I will have to look at some Canuck options stocks.
MB
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