Friday, December 29, 2006

2006 Year Of The Dragon

CAUTION: The following post contains extraordinary graphical representations of incredibly ridiculous, extremely exponentially, jet-like propulsionary pie-in-the-sky stock charts that could create mild to severe delusions of greedy grandeur.

What do you get when you add "China" to a stock? Definitely not hari kari (I think that's Japanese which is close to China). Rather, you get small float stocks with incredible growth potential and short squeezes all the way up to atmospheric proportions.
Let me just say that these charts below tell what the China growth story can do to a stock.

Now here comes the always infamous "hindsight is 20/20" what if scenario.
We'll use China Life Insurance (LFC) for this whatif.

What if instead of buying the stock, you got an idea to buy the Dec06 or Jan07 Calls in August 06. And let's say that instead of buying 100 shares at around $25 per share (split-adjusted) at that time, you bought 1 Jan07 25 Call contract for $5.00/contract.

Let's do the math together just so everyone is on the same page:
Stock purchase= 100 shares x $25.00 = $2,500 total capital outlay (plus commission)
Option purchase= 1 contract = 100 shares x $5.00 (premium)= $500 (plus commission)

Theoretical Stock Proceeds if sold December 29th, 2006 (last day of trading for the year) = $50.00

100 shares x 50.00 = 5,000 (less commission) Total p/l = $2,500 (+100%)

Theoretical Option Proceeds if sold 12/29/06 = Jan07 25 Call Premium = 25.00/contract

1 contract = 100 shares x 25.00 = $2,500 (less commission) Total p/l = $2,000 (+400%)

Now what if you weren't so bullish on LFC and you instead bought puts. Then you're options would have been worthless had you held them for this long costing you your initial capital outlay of $500. Had you shorted the stock and did not cover you'd have incurred many margin calls and lost a lot more than your original investment.

I point this out to illustrate the benefit of longer term option plays in lieu of buying the stock. This can also be said for the reverse king of trade; that of buying puts. Keep in mind that this is an extreme example but nonetheless possible. One could have used trading Microsoft as well which is a large cap stock with less growth potential and performed almost as well.

Well, I warned you about the delusions that these charts and scenarios would cause you. It's up to you whether or not you want to entertain or eradicate them. Whatever you do, the million dollar question is what will 2007 hold for the dragon? Will it be a "gong" (sorry about that pun), or will it be an eragon (have not seen the movie but it seems to be popular)?

To be continued....
Happy New Years!!!

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