InterMune Options Present Opportunity

InterMune, Inc. (NDAQ: ITMN) shares may present an opportunity to investing experienced writing covered calls. Currently, the $12.50 January 2009 calls are trading for $2.30 per contract while the stock trades for just $11.79 per share. As a result, shareholders who purchase 100 shares for $1,179 can earn a 19.5% return on investment in just around one month. The trade-off is that the shareholder takes on the risk if the stock declines during that time period.

InterMune is set to report its Pirfenidone data in the first quarter of 2009 before the call option expires. This has led to a high level of expected volatility which increases the options premiums demanded by those that write options. The success or failure of these results will likely determine whether or not these options are in the money. Investors unwilling to risk 100 shares worth of capital instead purchased the options at a cheaper cost for upside.

Luckily, long-term options called LEAPS can help shareholders reduce their risk and increase their returns. By using these long-term options as a stock substitute investors can reduce their capital at risk to just $680 versus the $1,179 needed to purchase the actual stock. How? The $10 January 2010 LEAPS calls are trading for just $6.80 per contract (ask price), which means investors can buy the right to 100 shares for just $680 down. The return on investment for writing the short-term calls would then be around 33%.

Using LEAPS investors can increase their returns while reducing their capital at risk. The only downside is that if the stock’s price rises above $12.50 over the next month or so, the investor will either have to buy back the call option at a loss (offset by the increase in LEAPS value) or exercise the LEAPS option and immediately sell the shares to make good on the written call. Typically, it is cheaper to simply buy back the written call option and take the profit on the LEAPS as it involves less transactions costs.

InterMune is a biotech company focused on developing and commercializing therapies in pulmonology and hepatology. Shares of the company rose $0.27, or 2.33%, to $11.48 during Friday’s session.

See “A Better Covered Call Alternative” for more information on this strategy.

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