Bookmark and Share 27, Facebook Options

Option exchanges have minimum requirements that must be met before new issues like Facebook, or any stock, can trade put and call options:

  1. Share price > $3 for 5 business days
  2. Number of shareholders > 2,000
  3. Public float > 7M shares
  4. 12-month trading volume > 2.4M shares

Facebook has met all of these requirements and will have call and put options available on Tuesday, May 29th.

Initial strikes on FB will be 16, 19, 22, 25, 28, 31, 34, 37, 40, 43, 46 and 49, and the options will trade in nickel increments.

Facebook Option Strategies For Various Investor Situations

There are different strategies for investors in different situations. Let's start with the most vested to the least:

Employees and Early Facebook Investors

You are a Facebook employee, or one of the pre-IPO investors

You probably have a share cost less than the current market price of $31.91. Maybe you don't want to sell your shares (or can't, because of the post-IPO lockup), but you'd like to generate some income from your shares. This is a classic use of covered calls. Set the strike price as high as you like, and just write near term call options against your position. It's found money, and if you're not doing it you're leaving money on the table every month.

IPO Investors

You were allocated shares at $38 in the IPO. Now they're at $31.91. How to recover?

In any repair situation you have to first ask yourself if you still like the stock. If you were just hanging around for a quick flip on a new issue then you should have gotten out by now. If you haven't, and if you still like FB more than some other stock you could buy, then a common stock repair technique is to buy 1 at-the-money option for every 100 shares you have, and sell 2 out-of-the-money options to pay for the purchase.

Example: You own 100 shares at $38. It's now at $31.91. Buy one 34-strike call for $2, and sell two 37-strike calls for $1 each (all 3 have same expiration date). You've lowered your break even point from $38 to $36 for zero additional dollars:

FB Price On
Expiration Day
Action On Expiration Day Profit
34 or less No action, break even remains at $38,
repeat repair process for next option cycle
-
35 Sell 34-strike call for $100,
break even now $37, repeat next cycle
-
36 Sell 34-strike call for $200,
sell stock for $36
0
37 Sell 34-strike call for $300,
sell stock for $37
200

You've also put a cap on your upside, though. Best you can do is have FB be $37 or higher on expiration day (in which case you make $2/share). If it shoots up to $45 you will only make $2/share on your original investment of $38 (but, hey, this is a 'repair' strategy whose goal is to lower your break even point and get you out of a losing position).

Post-IPO Investors

You bought shares after the IPO. No matter what you paid you are underwater since FB closed at it's low on Friday.

This is basically the same case as the IPO investor who bought in at $38. If you still like the stock, use the repair strategy to lower your break even point. If you no longer like the stock then just sell it, take the loss, and move on to something you like better.

As an alternative, you could write covered call options against your stock with a strike equal to (or greater than) the price you paid. If called then you've made something. If not called then you've lowered your break even by the amount of premium you received and you can write another covered call for the next option cycle. FB is unlikely to go to zero and eventually you should be called away (for a profit, if you keep your strikes equal to or greater than your adjusted cost basis).

Not Currently A Facebook Investor

You don't own FB but are considering doing some buy-writes once call options begin to trade next week.

In this situation you have to consider FB next to all of the alternatives (ie. other stocks you could do a buy-write with). If the option premiums are very good on FB, and if you keep your position size reasonable, and your moneyness as deep as meets your risk profile, then this could be a decent candidate for buy-writes. However, like other recent internet IPOs (GRPN, LNKD, YELP, ZNGA, P) you will want to keep your position size modest. High volatility is good for option premium, but bad for portfolio value if the stock moves against you.

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