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Intel Corp (INTC) stock may have bottomed as investors believe Intel will reach positive free cash flow next year. The best way to play this could be buying in-the-money (ITM) call options with long-dated expiration periods. This article will show how to make an ITM call option play with a +20% expected return.
INTC is at $26.22 in morning trading on Friday, Nov. 8, after bottoming out at $18.77 on Aug. 7. I discussed this in my Oct. 16 Barchart article, “Intel Corp Stock May Have Bottomed - Attracting Unusual Call Options Activity in INTC Today.”
So, it appears that investors believe that INTC stock may have hit its trough. Is it time to buy the stock now?
In my article, I argued that INTC was worth $27.31 per share, based on projections of positive free cash flow (FCF) next year. Moreover, analysts have raised their average price target to $27.70 according to Barchart's survey.
AnaChart.com, a site that tracks sell-side analysts' performance, reports that 32 analysts have an average price target of $33.50, or over +27% higher.
One way to play this is to buy long-dated call options. This is a leveraged investment play. It allows enough time left in the expiration period for the stock to move significantly higher.
In-the-Money (ITM) Calls
At the time INTC was at $22.33, and I highlighted institutional investors who were buying large numbers of $25 and $30 long-dated calls expiring Feb. 21, 2025. These were out-of-the-money (OTM) (i.e., strike prices were higher than the trading price), but now $25.00 strike price calls are in-the-money (ITM).
The $25.00 strike price calls have risen from $2.07 on the ask side to $3.50 in the mid-price today. In other words, INTC has risen 17.4% ($26.22/$23.22-1) in the past three weeks, but these calls have risen 69% (i.e., $3.50/$0.2.07-1). That's how the leverage of call options works on the upside, especially for near-, at-, and in-the-money options.
The point is that buying long-term calls with intrinsic value may be the way to go.
For example, look at the prices of the March 21, 2025 expiration period, 133 days away or over 4 months. It shows that the $25.00 calls, now 4.69% in-the-money (ITM - i.e., the strike price is below the trading price, giving the call some intrinsic value), trade for $3.80 in the mid-price.
For example, the 4.69% ITM ratio means the difference between $25.23 and the strike price of $1.23 is 4.69% of the trading price of $26.23.
This means that the breakeven price, assuming the calls were to be exercised in the future, is $25.00 +$3.80, or $28.80. That is just almost 9.80% over today's price.
So, can INTC rise almost 10% in the next 4 months? It seems to be highly likely. In fact, the delta ratio is 63% - indicating there is a greater than 50% probability.
Moreover, it also means that for every $1.00 rise in INTC stock, the $25.00 call options will rise by $63.00. That is a huge amount of leverage.
So, for example, let's assume that INTC hits $30.00 per share. That is a rise of $3.77 per share from today's trading price. The calls would be expected to rise by 63% of that amount, or $2.38, or $6.18 per call (i.e., $3.80+$2.38).
These calls would have at least $5.00 of intrinsic value ($30-$25.00 strike price), and the remaining $1.18 would be extrinsic value.
So, in this case, the investor would make a 62.6% return (i.e., $6.18/$3.80-1) for just a 14.37% rise in INTC stock (i.e, $30/$26.23-1).
Downside Risks and Expected Return
That is the bullish case for investing in long-dated INTC calls that have in-the-money strike prices. The downside is this: INTC stock could always fall again. But at least the investor has some defensive room here since the strike price is $25.00.
In other words, assuming that INTC falls by $1.23 to $25.00 (or -4.68%), the call options would theoretically fall by 63% of that amount, or 78 cents. That means they would trad for $3.02 (i.e., $3.80-$0.78 = $3.02). The investor would incur a 79.5% loss in the call premium (i.e., $3.02/$3.80 buying price -1 = -79.5%).
Let's use probability analysis and make some assumptions. For example, let's assume there is a 70% chance that INTC stock rises to $30 in the next 4 months. The call options investor would have a 70% probability of making +62.6%. If there is a 30% chance of INTC falling to $25.00, the call options investor would a 30% chance of losing -79.5%.
Therefore, the total expected return (ER) is roughly +20%. That means the the call price has an ER value of $4.56 (i.e., $3.80 x 1.20). Here is how to calculate that total ER:
0.70 x +62.6% return on the upside = +43.82%
0.30 x -79.5% return on the downside = -23.85%
Total ER: +43.82% - 23.85% = +0.1997, or roughly +20%.
That is how hedge funds and sophisticated institutional investors calculate their expected return (ER) with this kind of options trade. It looks like a winner.
The bottom line is that INTC stock is coming out of a trough and looks to be worth significantly more. One way to play this is to buy long-date in-the-money (ITM) call options for a 20% expected return.
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