Despite the turmoil from the war in Iran, oil prices may be near a peak, at least in the short term. Analysts have pushed up ConocoPhillips (COP) price targets, but COP stock may be at a near-term peak. As a result, selling covered calls may be attractive.

COP closed at $127.19 on Monday, March 23, and it's been rising for the past 3 weeks since the Iran war started. But has it peaked? After all, oil prices are now below their peak.

For example, the West Texas Intermediate March contract peaked at just over $98 and is now down to $88 and change. If that stays level, it could lower the performance for COP stock.

Covered Call Plays Work

As a result, one way to play COP is to sell out-of-the-money (OTM) call options for one-month expiry. I discussed this play in a recent Barchart article, and it worked out well (March 2, "ConocoPhillips Stock Jumps - Time to Sell Covered Calls in COP?).

I suggested selling the $123.00 and $124.00 call options expiring April 2, when COP was at $117.00. So, at the time, this was an out-of-the-money (OTM) covered call play. Now those strike prices are in-the-money (ITM), but a covered call seller has made capital gains as well as the premium received (i.e., $3.64 and $3.25, respectively).

So, that is the same as having sold shares at $126.64 and $127.25, which is where COP is today. This play can now be repeated.

Price Targets (PTs) Are Higher

Moreover, since then, analysts have raised their price targets (PTs) for COP stock. For example, Yahoo! Finance reports that the average PT for 28 analysts is now $123.67, up from $116.48 in my last Barchart article on March 2. COP is now higher than that PT, so it could be a signal that it's time to sell.

However, AnaChart.com, which tracks recent analyst write-ups, shows that 18 analysts have an average PT of $149.88 per share. That's 18% higher than today.

That is why it makes sense to sell a higher strike price COP call option over the next month. For example, look at the April 24 expiry period.

Shorting OTM Calls Today

It shows that the call option contract at the $136.00 strike price, which is almost 7% over today's price, has a midpoint premium of $2.20. That is known as selling an out-of-the-money (OTM) call. 

If the investor first buys 100 shares of COP stock, it's also known as a “covered” call play. The 100 shares become collateral for the call option contract if COP stock rises to the strike price.

So, an investor would make the following income yield:

  $2.20/$127.19 = 1.73% over 1 month

The total potential return, if COP rises to $136.00 over the next month, is 6.93% capital gain+1.73% income, or +8.66% over the next month.

And for the $137.00 strike price call, 7.7% higher, the yield is slightly lower:

  $1.98/$127.19 = 1.56%

However, the total potential return, if COP rises to $137.00, is 7.71% + 1.56%, or +9.30%.

That's why it might make sense to sell covered calls here, especially for existing investors. New investors would have to buy COP at today's price for this play to be “covered.”

However, some investors might like to invest in COP at a lower price. One way to do this is to sell out-of-the-money (OTM) puts.

Shorting OTM COP Puts

For example, the April 24 expiry period shows that the $120.00 strike price put option contract has a midpoint premium of $2.33. That provides a short-put yield of 1.94% (i.e., $2.33/$120.00 = 0.0194).

In other words, even if COP stock falls over 5% to $120.00, the investor's collateral of $12K (not $12.7K as well as a covered call) will be used to buy 100 shares. 

But, the investor makes a higher yield: i.e., 1.94% vs. 1.73% for the $136.00 strike price call play.

The point is that an investor gets paid to wait to invest at a lower point. In fact, the breakeven point, if COP falls to $120.00, is $117.67, or $10 lower, i.e., -7.5%.

Alternative Plays

That appeals to value investors. In fact, some investors are able to both short covered calls, as well as OTM puts. Then, if the COP stock moves higher, they use the combined short-option income to buy a higher strike price call, to act as “opportunity lost” insurance. 

Or, if COP falls, they buy a lower strike price put contract. That could cover any potential unrealized loss, in case COP falls to the short-put strike price or lower.

The point is that there are alternative ways to cover or mitigate any potential unrealized losses from shorting OTM calls or puts.

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