Swiss private bank Bank Leu is recommending clients sell covered calls on shares of Swiss-based food manufacturer Nestlé. Markus Pfister, head of trading in Zurich, said the strategy entails a client buying Nestlé shares and simultaneously selling an over-the-counter call option struck at CHF3,500 (USD2,137). A 12-month call option with this strike has an implied volatility of 23% and generates a premium of 10%. Clients can use the premium earned from selling the option to subsidize the cost of buying the stock. But the downside is that they limit their profit in the first year--if the share price rises above the strike level, the option is exercised.
Pfister is recommending the trade now because Nestlé's share price has fallen from CHF3,800 at the beginning of January to CHF3,370 on Monday. The fall has pushed implied vol from 20% to 23%. This means clients earn more premium for selling the option and can buy the stock more cheaply now than they could at the beginning of the month.
Pfister anticipates Nestlé's share price will be volatile over the next 12 months but does not think the European-style options will be in-the-money at maturity. He said "The market is split between whether the stock will go up or down, and that usually means it will stay in a range."
Pfister said his clients have pulled the trigger on about CHF10 million of these deals in the last two weeks. The trade uses OTC options because they are more flexible than listed derivatives. For example the strike that Pfister recommends, CHF3,500, is not available in the listed market.
John Keele, equity analyst at BNP Paribas in London, said Nestlé's share price has fallen since the start of the year as investors have moved away from food stocks. Last year, food companies' share prices rose and now some investors think the sector is overvalued. BNP Paribas still rates Nestlé a buy because the company has restructured its ice-cream and European pet food departments and is now better positioned for growth. The bank has a 12-month price target of CHF3,985 on the company.