If you own a company’s stock during a bullish, then you can rearrange your investment with a long-term equity anticipation securities (LEAPS) strategy. This strategy transforms your 50% rise into a 300% gain.
However, there are risks of using this strategy. Once you use it in the wrong way, you lose all of your portfolios in days.
The Definition
LEAPS is one of the available stock options that can stay longer than one year. Using this strategy, you can use lesser capital than purchasing the stocks. What’s more? It gives you another return when you bet in the right direction of the shares.
For instance, you have $20,500 to invest in a XX company which you know will be higher within a month. The shares of XX trading at $14.50. That means you can have around 1,414 shares of common stock.
On the other hand, you have the option to leverage 2-1 by borrowing margin. That can bring $41,000 investment for 2,818 shares. But, once it crashes you will get a margin call and forced to sell at loss.
Using LEAPS, you can purchase a call option expired in the next 20 months with a strike price of $17.50.
That means you own the right to purchase that stock at $17.50 per share from the purchasing date up to the expiration date. You, however, still have to pay a fee or premium $2.06 per share.
If the XX stock trades not above $20 by the next two years, then, you are in a total loss. On the other hand, the price which goes above means huge gain for you.
The outcome
Your net profit on the transaction would be $5.44 per share on an investment of only $2.06 per share. You turned a 72.4% rise in stock price into a 264% gain by using LEAPS instead of stock.
Automatically, your risk increased, but you were compensated for it given the potential for outsized returns. Your gain works out to $54,400 on your $20,600 investment, compared to the $14,850 you would have earned.
The Dangers
The biggest temptation for using LEAPS is to turn the stock investment into a high-risk gamble selecting an option. One trial may tempt you to take more risks with a shorter duration of time.
Yet, this strategy does not make sense for some investors. You need to use it with great caution and strategic trading. Besides, you have to also have plenty of cash to spare, have a complete portfolio, and can afford to lose your money in it.