IPOM

 

IPOM

Watts Gwilliam & Company’s Income Producing Option Model (IPOM) can be used to enhance the income potential of large stock positions or market indexes through a professionally managed options strategy. This is achieved by selling call options on the position in exchange for upfront cash premiums. Our computer driven model provides sophistication and consistency, and helps clients determine the appropriate number of options to sell while investing in the call option that provides the best value. While invested in the strategy, IPOM maintains the integrity of the investor’s ultimate objectives with the stock position.

The IPOM seeks to achieve the following:

  • Provide income through the receipt of option premiums
  • Allow the investor to continue receiving dividends and voting rights
  • Provides upside appreciation to the target price
  • Sell the optimal call that statistically adds the most value
  • Establish discipline needed to execute a sell strategy
  • Succeed in its objectives regardless of which direction the stock moves
  • Work successfully for those wanting to sell all, or some of their stock, and for
    those not looking to sell their stock at all

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Income Producing Option Model

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John has worked as a manager for XYZ Corp for 18 years and in the process has acquired nearly 35,000 shares of the company’s stock. His goal is to continue holding the stock until it reaches a more favorable sell price. John has become frustrated watching the position rise and fall with the market and wants to evaluate alternatives to enhance the return on the idle stock position.
  
How It Works
The objective of the Income Producing Option Model (IPOM) is to enhance the income potential of concentrated stock positions through a professionally managed options strategy. This is achieved by selling call options on a concentrated stock position in exchange for upfront cash premiums. Our sophisticated model helps clients determine the appropriate number of options to sell while investing in the call option that provides the best value. The portfolio structure maintains the integrity of the investor’s ultimate sell objectives. 

The IPOM seeks to achieve the following:

  • Provide income through the receipt of option premiums 
  • Allow the investor to continue receiving dividends and voting rights
  • Provides upside appreciation to the target price
  • Sell the optimal call that statistically adds the most value
  • Hedge a stock decline through the option income
  • Establish discipline needed to execute a sell strategy
  • Succeed in its objectives regardless of which direction the stock moves
  • Work successfully for those wanting to sell and those not looking to sell their stock at all

The following chart graphically displays the outcome of the strategy based on changes in the desired target price. As the average target price increases, income decreases.

For Those Looking to Sell…

Watts Gwilliam & Company’s IPOM model offers structure, discipline, and sophistication to concentrated stock portfolios. Central to the success of the strategy is our commitment to each client’s individual needs and goals. For some this means working with a Watts Gwilliam & Co. financial advisor to establish a sell strategy. In such cases, target prices are based on the client’s desired exit prices as determined through an individual consultation. Our model’s flexibility allows the client to “average” out of the stock at various prices and does not force the investor to choose a “one-price-sells-all” target. 

After a consultation with a Watts Gwilliam & Co. representative, John decided to sell 10,000 shares at $30, 10,000 shares at $32.50 and 10,000 at $35. A customized IPOM was put in place, giving John an average sales price of $32.50, 25% above the current market price of ABC’s stock. John received immediate income of $13,800 while the model projects total annual income of $22,000. The chart below summarize the outcome of John’s strategy: 

For those NOT looking to sell their stock…

In some cases there are valid reasons for not selling a concentrated stock position. Often investors ultimately prefer to hold onto the stock and not sell at all. Our models include mechanisms designed to help investors maintain the position. This allows clients to use their target prices to speculate rather than sell their stock.

While meeting with Watts Gwilliam & Co., John mentions that he isn’t committed to selling his ABC stock. John anticipates that ABC Co won’t appreciate over 35% this year. Watts Gwilliam & Co. customizes a strategy using the IPOM designed to enhance the yield of the otherwise idle stock. The strategy is put in place and John immediately realizes an income yield of $8,500, or roughly 1%. It is estimated that his annual yield will be around $14,000, if the stock doesn’t increase more than 35%. While the strategy is in place John continues to receive dividends on the stock.

Is the IPOM right for you?

The Income Producing Option Model should be considered by investors:

  • With a concentrated stock position that meets the Watts Gwilliam & Co. minimum requirements (lesser of 10,000 shares or $500,000 market value)
  • Desiring enhanced income yield off the concentrated stock position
  • Seeking to either sell all or a portion of the position, or speculating on the stock remaining under a target price

Commonly Asked Questions

Q: Is it possible to prevent low basis stock from being called away?
A: The IPOM uses listed options to execute its strategy. Listed options are American style options, which means that it is possible for shares to be exercised prior to the maturity of the option. This rarely happens. If the client desires to retain their shares and is exercised and called to deliver stock, Watts Gwilliam & Co. will buy stock in the open marketplace to deliver against the exercise of the option. This is a simultaneous transaction that is normally cash flow neutral. 

Q: I currently have a margin balance against my shares. Are they still eligible for the program?
A: Yes. In fact, many clients use the IPOM income to hedge the cost of margin interest.

Q: Can I terminate the strategy before the options expire?
A: Yes. However, doing this may require closing option positions at a loss. There is a chance that this loss could exceed the upfront income that was earned at the onset of the strategy.

Q: Is this strategy available in retirement accounts?
A: Yes. Selling covered call options is an approved for most retirement accounts, including IRA accounts.

Q: Can the strategy be used on my unexercised employee stock options?
A: Yes. However, the following terms must be met:

  • The client must have options that are vested, in-the-money, and expire in no less than one year
  • The client must understand the added risks of investing in naked options
  • The client must collateralize the program’s short option position with sufficient assets
  • Watts Gwilliam & Co. may request duplicate quarterly statements detailing the status of your employee stock options.

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* Examples, charts, and assumptions used on this website are for illustrative purposes only. Actual results may very, and could result in either higher or lower returns than illustrated above. 

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