Determine IBM stock to be the best suitable for the covered call strategy. Justified our choice by considering the following factors: (i) the short duration of the strategy, (ii) current market conditions, (iii) relative valuation of IBM, (iv) relative risk of IBM, (v) volatility of your IBM's stock returns, (vi) bid-ask spread and liquidity of the stock and the option, etc. Graphed the expected pay of for the covered call strategy for various choices of X, assuming the stock price does not change, changes +/- 5% from the price on February 21. The position will be liquidated on March 11 (i.e., we will buy back the call and sell the stock) following its implementation. This is a suggested investment for an endowment fund so carefully consider the levels of risk involved.

1. FINANCIAL ENGINEERING & Derivative PRODUCTS
COVERED CALL strategy

2. INTRODUCTION
Entity: Endowment Fund
Goal: Short Term Return
Minimal Risk
Seeking: Mildly Bullish Stock
High Trading Volume
Low Asset Volatility
Investment: International Business Machines

3. COVERED CALL
STRATEGY
Covered Call Strategy
◦ Stock Price: $199.31
◦ Strike Price: $210.00
◦ Call Price (Ask): $3.35
◦ Maturity Date: July 20, 2012

4. Selection Criterion
Offering Capabilities (Business Diversification)
◦ hardware, software and services
New Services Growth
◦ $3.5B in acquisitions last year
Lower Volatility / Stable Earnings
Low P/E (Relative to Industry)
High Institutional Ownership
High Liquidity (Stocks and Options)

5. S&P: IBM

6. Stock Price
5 Year
3 Months

7. Valuation
12-month target price of $227 reflects a target multiple of 13.6X, which
is at the high end of the five-year historical range for IBM, applied to our
2013 EPS estimate
We view the stock's valuation as attractive, given IBM‘s economies of
scale and relatively steady earnings performance

8. Identified Stocks
Current Call Price BA Premium Shares Call Premium
Stock Strick Volatility ∆ β θ
Price (in theory) /Stock Price we buy Get (In Theory)
Caterpillar Inc 95.60 100 2.08 20.30% 0.3449 1.86 -0.0200 0.05% 1,046 $ 2,180
Deer & Company 90.37 95 2.12 18.76% 0.3434 1.38 -0.0149 0.07% 1,106 $ 2,345
General Motors 27.68 30 0.93 28.13% 0.3412 1.69 -0.0068 0.07% 3,612 $ 3,368
3M 104.18 105 3.03 12.68% 0.4800 1.06 -0.0113 0.10% 959 $ 2,903
Intel 21.08 23 0.18 18.61% 0.1818 1.01 -0.0029 0.05% 4,743 $ 861
Harley-Davidson 52.40 55 1.72 27.08% 0.3827 1.63 -0.0152 0.06% 1,908 $ 3,286
IBM 200.32 210 3.66 14.31% 0.3213 0.62 -0.0221 0.07% 499 $ 1,827
** Rf = 0.1%
** Fund = $100,000
** All numbers come from CBOE

9. Returns

10. Beta

11. RELATIVE VALUATION

12. VOLATILITY

13. KEY STATISTICS
FACTOR STATISTIC
Stock: Outstanding Shares 1.12B
Stock: Average Trading Volume 3.9M
Stock: Volatility 17.19 (Ind Avg: 29.33)
Stock: Bid-Ask Spread (3 M) $0.06
Option: Current Trading Volume 25 Contracts
Option: Bid-Ask Spread $0.11

14. EXPECTED PAYOFF Expected
Stock Price Strike Stock Price Call Price Call Price Total
Stock Gain/Loss
@Feb20 Price @Mar11 (Short@Feb20) (Long@Mar11) Gain/Loss
per Share
209.28 9.47 5.74 2,875.23
IBM 199.31 205 199.31 5.24 4.46 0.78 391.37
189.34 1.63 (6.35) (3,180.21)
209.28 6.85 6.46 3,238.25
IBM 199.31 210 199.31 3.35 2.93 0.42 208.30
189.34 0.95 (7.57) (3,792.13)
209.28 4.78 7.38 3,699.54
IBM 199.31 215 199.31 2.20 1.85 0.35 174.10
189.34 0.53 (8.30) (4,158.09)
209.28 3.21 8.15 4,081.23
IBM 199.31 220 199.31 1.39 1.12 0.27 136.51
189.34 0.28 (8.86) (4,437.87)
209.28 2.08 8.74 4,377.96
IBM 199.31 225 199.31 0.85 0.65 0.20 100.87
189.34 0.15 (9.26) (4,639.34)
 Parameters
 Risk free rate = 0.1%
 Volatility = 14.36%
 Days between Mar 11 to Jul 20 = 131
 Days between Feb 20 to Mar 11 = 19

15. Graph: Profit/loss to stock
Price
50.00
40.00
30.00
20.00
10.00
-
151 161 171 181 191 201 211 221 231 241
(10.00)
(20.00)
(30.00)
(40.00)
(50.00)
X = 210 Gain/Loss X = 215 Gain/Loss X = 220 Gain/Loss Stock Gain/Loss

16. Graph: Profit/loss to stock
Price
60.00
40.00
202
20.00
-
151 161 171 181 191 201 211 221 231 241
(20.00)
(40.00)
(60.00)
X = 210 Gain/Loss Stock Gain/Loss

17. Greeks
Fund 100000
Call Price Expected
Stock Price Stock Price Call Price Total
Stock
@Feb20 Strike @Mar11
Expiration
(Short@Feb20)
(Long@Mar1 Gain/Loss
Gain/Loss
1) per Share
Delta
209.28 9.47 5.74 2,875.23 Delta Theta
position
IBM 199.31 205 199.31 20-Jul 5.24 4.46 0.78 391.37 0.3893 0.6107 -0.0252
189.34 1.63 (6.35) (3,180.21)
Delta
209.28 6.85 6.46 3,238.25 Delta Theta
position
IBM 199.31 210 199.31 20-Jul 3.35 2.93 0.42 208.30 0.2869 0.7131 -0.01224
189.34 0.95 (7.57) (3,792.13)
Delta
209.28 4.78 7.38 3,699.54 Delta Theta
position
IBM 199.31 215 199.31 20-Jul 2.20 1.85 0.35 174.10 0.2014 0.7986 -0.0184
189.34 0.53 (8.30) (4,158.09)
Delta
209.28 3.21 8.15 4,081.23 Delta Theta
position
IBM 199.31 220 199.31 20-Jul 1.39 1.12 0.27 136.51 0.1346 0.8654 -0.0142
189.34 0.28 (8.86) (4,437.87)
Delta
209.28 2.08 8.74 4,377.96 Delta Theta
position
IBM 199.31 225 199.31 20-Jul 0.85 0.65 0.20 100.87 0.0866 0.9134 -0.0104
189.34 0.15 (9.26) (4,639.34)
Delta Position of Covered Call + Delta call =1
Strike Delta Delta
Increase Decrease Increase
Price X Option

18. Q&A
Thank You