How to Play AIG

I have been looking at AIG eversince one of my trading buddies raise this question to me about 2 weeks ago - "Should I sell AIG Put?"

After thinking through, I came out with the following and I thought I should share with others who are reading my blog.

Assumptions:

• The U.S. Government would not let AIG failed after pumping US$85 billion. Otherwise. they would look like a fool and there would be a public backlash - apart from a financial backlash.
• On a worst case scenario, AIG will be taken over by the U.S. government just like it did to Freddie Mac and Fannie Mae. The stock price would then hovers around $1.
• The AIG stock can go higher over a longer term.

At the moment, AIG is hovering around $4. About 2 weeks ago, it is hovering around $3. The strategies below were based on the stock and option price about 2 weeks ago.

1. Strategy 1 - Sell the Put options to get the shares at a cheaper price.

• Instead of buying the AIG shares outright at $3, we sell the Oct $3 Put for $0.80.
• If the stock goes above $3 on expiry, we keep the $0.80. If this happens, we repeat the strategy again by selling the Nov Put.
• If the stock goes below $3 on expiry, we buy the shares for $3. However, since we already pocketed the $0.80 premium when we sell the Put, our cost is effectively $2.20. If this happens, go to Srategy 2 or Strategy 3.

2. Strategy 2 - Sell the Call (Playing Covered Call) to collect more pocket money

• Sell front month Call to collect pocket money. In this case, sell the Nov Call (e.g. $3 Call for $0.80)
• If the stock goes above $3 upon expiry, we have to sell the shares for $3. But we have already pocketed $0.80. Our capital was $2.20 but our returns is $0.80. Good money !!! Then Go back to Strategy 1.
• If the stock goes below $3 upon expiry, repeat Strategy 2 and sell the next front month i.e. Dec Call. If you repeat this 3 times, you would have recouped you capital of $2.20.

3. Strategy 3 - Play Strategy 2 and and Strategy 1 at the same time.

Risk:

• If you already collected the shares, the stock may go down to $1. From $3 or $4 stock to a $1 stock.
• If you already collected the shares, and you sell the Call options, the stock may go to say $10. You lost the opportunity to earn more. Covered Call strategy gives limited profit.

Cheers !!!

PersianCat (Millionaire-in-progress)