This is the fourth edition of “Best Option Ideas” in Canadian Edge. We also presented some Canadian option trades at the annual summit in Las Vegas. The table below shows the results so far. The first four trades, recommended on May 12 in Las Vegas, have all been closed at handsome profits. The next five are the trades presented in Canadian Edge since June. We have closed four of these trades, again with nice returns. The fifth is still open, but in a losing position at the moment.

We hope that you find this a useful addition to the mostly long-term, buy-and-hold recommendations of the Dividend Champions portfolio.

Don’t trip over TRP – Round #2

Investment thesis: We are doubling down on TransCanada, as we don’t believe that the investment case has changed since we first initiated a long put position in July.

TransCanada Corp. (TSX: TRP, NYSE: TRP) has been on a tear over the past nine months. The stock is up almost 50% from its December 2015 lows, outperforming rival Enbridge by a considerable margin. Some investor excitement around the stock was generated by the all-cash, US$13 billion takeover of Columbia Pipelines at a 32% premium over the then-prevailing market price. Management believes that the transaction, which became effective July 1st, will be accretive to TransCanada profits — but the net benefits will obviously not show up in company profits any time soon. This is a top-quality operation, but we feel that the valuation is full: the 12-month forward EV/EBITDA ratio is 14, a premium to the North American pipeline majors and above our fair value estimate for TransCanada.

Option Strategy: Buy to open a protective put option with a strike price of C$58 expiring on January 20, 2017, at or below C$120 per option (C$1.20 x 100). This will ideally be done by shareholders of TransCanada who wish to protect their holdings against downside risk, but can also be used for a speculative trading strategy. [The most similar U.S. call option on TRP is the US$45 strike expiring on January 20, 2017.]

Outcomes: If used in a protective role, the option will limit the downside risk of owning TransCanada. On a fully immunized basis, the breakeven price (after accounting for the option premium) is C$56.85, while the maximum loss at expiration is 5.0%.

If used in a speculative capacity, the option price will gain 161% if the share price drops – for example, to C$55 on expiration day.