Dykstra: Don't Sweat the Small Stuff

Here's what to do with a call when the stock, like Nabors, goes down. Plus, loving Lilly.
Author:
Publish date:

For the past several weeks, I have focused on using deep-in-the-money calls to maximize my chances of investment success, in other words,

making money

. Hopefully, you have a better understanding of the nuances of deep-in-the-money calls and how they can best be utilized as part of your investment strategy. Nonetheless, I am frequently asked questions concerning what should be done with a deep-in-the-money call when a stock goes down.

The answer is simple; don't worry about the day-to-day stock price. I will rarely, if ever, use less than four months in time. Therein lies the beauty of my deep-in-the-money calls strategy. But please understand, just because we go out four to six months doesn't mean that you're not dealing with the same issue that is the No. 1 killer in options: Time is working against you. Technically speaking, this is known as theta, or the theoretical change in an option's value as its expiration date approaches. (For more on theta and a list of options definitions, please check out the

glossary for

TheStreet.com's

Options Alerts newsletter.)

By going deep in the money, we have a built-in defense to protect us in the early months. But it's important I let you know that everything isn't a party; there is reality -- and the reason options are so much cheaper than buying a stock outright is because you have to deal with the time factor. The bottom line is that if a stock falls and gets stuck, there's a chance you could lose your call.

I recognize it is difficult to just sit and watch a stock drop. But if a stock drops enough, I will recommend you buy the same calls, but for a much lower price.

Nabors Industries

(NBR) - Get Report

is a perfect example. A few weeks ago, I

recommended the June $60 call at $14.50.

After trading to an intraday high of $16.20, we ended up getting filled. Since then, the stock has been very choppy, but it had held its 200 day-moving average at $67.61 until Friday. Nabors is now trading below its 200-day moving average, and I strongly recommend the people who bought the June $60 calls at $14.50 buy here at around $10; that will bring down your average cost to $12.25. That is a serious difference in your average cost: $14.50 down to $12.25. You would then set your sell order, a limit good-till-canceled (GTC), at $13.50, or $14.50, depending on how much you want to make.

Nabors is a specific example of how I deal with a position when the stock price falls. More generally, the following analogy should help readers better appreciate my deep-in-the-money calls strategy.

Having lived on the East Coast during my playing career, I recognized that people who visit the seashore in the summer react to weather conditions in a vastly different manner than those who own summer homes. For example, people who visit for a few days feel obligated to go to the beach regardless of how inclement the weather may be, because they somehow feel cheated if they don't go to the beach. Conversely, people who own homes at the seashore and spend the entire summer there, take inclement weather in stride because they have another 90 days or so to enjoy the beach.

Granted, it is conceivable -- although highly unlikely -- that an entire summer can be a virtual washout. However, the overwhelming odds are that there will be more sunny days than not. After all, that's why people buy summer homes in certain locations. With deep-in-the-money calls, you own the summer home. Don't concern yourself with a few rainy days or weekends. Leave the worrying to the nonowners, those who still live and die with daily stock prices. When you buy deep-in-the-money calls, invariably, to borrow a phrase from

Annie

: "The sun will come out tomorrow, bet your bottom dollar that tomorrow there will be sun."

To Your Health

Speaking of the future,

Eli Lilly

(LLY) - Get Report

is one of the world's leading health care companies. I have been following this unique company very closely now for about six weeks, and I like what I have seen! With close to 45,000 employees worldwide and clinical research in more than 60 countries, it is now time to take a ride on Mr. Sidney Taurel's back, and let Lilly's chairman and chief executive officer make us some money!

By doing the homework, I was able to find us a real bargain: The October $45 deep-in-the-money call closed last Friday at $12.00. After adding your October $45 strike price to the October $12.00 deep-in-the-money call price, which totals $57, we are paying only 98 cents in premium. Wow! The option symbol for the October $45 is (LLY JI). This gives us eight months to make money. These October $60 calls, which closed on Friday at $12.00, were recently trading with a bid/ask of $12.30/$12.50.

I would recommend putting a GTC buy order at $11.50, as I did this morning; remember,

don't chase

!

In closing, I have to tell you a little bit more about this fascinating company. Eli Lilly now enters its 130th year of business. The global, research-based company was founded in May 1876 by Colonel Eli Lilly in Indianapolis. A 38-year-old pharmaceutical chemist and a veteran of the Civil War, Lilly was frustrated by the poorly prepared, often ineffective medicines of his day. He made a serious commitment to himself and to society that he would make a difference! He aimed to be a factor in people's lives, and what a factor he has been!

Remember :

Life is a journey, enjoy the ride!

At the time of publication, Dykstra was long Nabors calls.

Nicknamed "Nails" for his tough style of play during his Major League Baseball career, Lenny Dykstra was an integral member of the powerful Mets of the mid-1980s, including the world champion 1986 squad, and the Phillies in the early 1990s.

Today, Dykstra manages his own stock portfolio and serves as president of several of his privately held companies, including car washes; a partnership with Castrol in "Team Dykstra" Quick Lube Centers; a state-of-the-art ConocoPhillips fueling facility; a real estate development company; and a new venture to develop several "I Sold It on eBay" stores throughout high-demographic areas of Southern California.