Market Overview
What started out as another troubling week for the bulls turned encouraging as the indexes rebound nicely on Thursday and Friday. By week’s end the S&P 500 had gained 1%, the Dow had risen 1.1%, and the Nasdaq had rebounded 2%.
This week’s covered call idea is Transocean (RIG), which has been a strong performer stock wise and as I’ve noted for Cabot Options Traders, has attracted call buying activity for weeks.
The Stock – Transocean (RIG)
Why the Strength
Deepwater offshore drillers were all basically wiped away during the oil bust in recent years, but today there are many factors helping out.
The first is the bust itself—operators have mothballed many rigs and cut costs to the bone, often after Chapter 11 filings (though Transocean was one of the few that didn’t go under). The second factor is resilient oil prices, which have remained north of $70 (now near $80) despite the Fed being on the warpath and economic worries. And third is the under-investment in the energy sector as a whole, which has big majors embarking on drilling plans that don’t change with every $5 or $10 hiccup in oil prices.
Transocean is one of the granddaddies of the group, with 39 rigs (all of which are ultra-deepwater or harsh environment); 25 of those are on the water today, with another two being built (including one that’s part of a joint venture)—in the firm’s words, it has the largest and highest specification fleet of floaters in the world. It also still has 12 rigs mothballed, but that may be changing as day rates rise and as many offshore projects are set to go live in the next year and a half.
There’s plenty of liquidity here, and while shaping up the balance sheet remains a priority, the past couple of quarters seem to have brought a sea change in multi-year order flow: After adding just $300 million or so to its backlog in Q1 and Q2, Q3 added $1.74 billion and Q4 added another $1.56 billion, with more so far this year—as of February 9, Transocean sported an $8.5 billion backlog, up from $7.3 billion and $6.2 billion three and six months prior (respectively). Meanwhile, while the bottom line is in the red, EBITDA is perking up ($140 million in Q4) and has a chance to really soar as day rates rise and most of the increased revenue falls to the bottom line. It’s an interesting turnaround situation.
Technical Analysis
RIG was held below 5 for most of 2021 and all of 2022, with drops into the low to mid-2s happening as the bear wore on. But the stock has been a totally different animal since last September, rebounding above 4, basing for a few weeks and then breaking out in mid-January and going nuts on the upside. The post-earnings action was ugly, but it looks like a shakeout now, with the 10-week line offering support. Stop – 5.9
The Covered Call Trade
Buy Transocean (RIG) Stock at 7.80, Sell to Open April 8 Strike Calls (exp. 4/21/2023) for $0.50, or a Net Price of 7.30 or less
Static Return: $50 per covered call (6.84%)
Breakeven: 7.3
Covered Call Return (if assigned): $70 per covered call (9.58%)
Please note, the stock and options prices will be moving throughout the day, so these prices are simply an approximation of prices that you should be able to achieve.
However, the important component of this equation is that the stock price paid, minus the premium received via the call sale, equals the Net Price, or 7.30 or less. (In this case 7.8 minus 0.50 = 7.30. Or another example is you could pay 7.70 for the stock and sell the call for 0.40, which also equals 7.30)
For every 100 shares of stock you buy, you can sell 1 call. For every 200 shares of stock you buy, you can sell 2 calls. And so on …
Open Positions
If our stop is hit, I will send an alert giving detailed instructions on how to exit the trade. But don’t get too worried about setting the stop. I will manage that for you.
The next Cabot Profit Booster issue will be published on March 14, 2023.
