An Opportunity to Make 15% a Year on Microsoft Corporation (MSFT)

How this plays out

There are three different scenarios that can happen on expiration day on January 2014:

1. Share price of Microsoft> $36: You get to pocket the premium and have no obligations.
2. Share price of Microsoft= $36: You get to pocket the premium and have no obligations.
3. Share price of Microsoft< $36: You get to pocket the premium, but you will also be obligated to buy the shares at the predetermined price of $36. Since this is an excellent price to pay for the shares, you should be fine with that obligation.

Mr. Buffett is right beside you

The practice of selling put options on select stocks and indices has been mastered by Warren Buffett. Many investors may not know this but Berkshire Hathaway Inc. (NYSE:BRK.A) sells options, all the time. You see, it only makes sense for an insurance company to receive fat cash premiums for the obligation to purchase shares in the future for a predetermined price. For example, in the 2012 annual letter , Buffett stated that Berkshire sold long-term puts on four leading stock indices in the U.S., U.K., Europe, and Japan, for a total float premium of $4.2 billion. In addition, Berkshire earned in excess of $1 billion for writing puts on high-yield corporate bonds. Mr. Buffett states that:

“All told, these derivatives have provided a more-than-satisfactory result, especially considering the fact that we were guaranteeing corporate credits – mostly of the high-yield variety –throughout the financial panic and subsequent recession.”

It that context, it’s also worth noting that Mr. Buffett repeatedly stated in the past that Microsoft Corporation (NASDAQ:MSFT) is attractive but it’s “off bounds” for Berkshire because of Buffett’s long standing relationship with Bill Gates. If Buffett claims that a software company is attractive, you should pay close attention.

The Foolish takeaway

I recommend that you sell to open the Microsoft Corporation (NASDAQ:MSFT) January 2014 puts, at the $36 strike price, for no less than $250 per option contract.

The article An Opportunity to Make 15% a Year on Microsoft originally appeared on Fool.com.

Shmulik Karpf has no position in any stocks mentioned. The Motley Fool recommends Berkshire Hathaway Inc. (NYSE:BRK.A). The Motley Fool owns shares of Berkshire Hathaway Inc. (NYSE:BRK.A) and Microsoft Corporation (NASDAQ:MSFT). Shmulik is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.

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