Why Was Apple Up Over 7% Last Week?

Apple (AAPL) is the largest publicly traded company in the world and has completely transformed every industry it operates in. Steve Jobs' focus on innovation has permeated the company and created a commitment to consumers that has handsomely rewarded shareholders throughout the years.

I have recommended option strategies for Apple since 2010 with tremendous results. (For reference, please view the first and other articles in the series to fully understand the strategy and its strong potential returns.) In essence, the investment objective is to capitalize on Apple's volatility by selling out-of-the-money options to generate weekly income without sacrificing long-term returns.

As we enter the post-Jobs era, it is even more important to keep a close eye on your investment and execute care with your trades. Since Jobs has passed, the company's performance will be under a magnifying glass. Thus far Tim Cook has steered the Apple ship quite well, but in such a dynamic industry, victory can be fleeting.

A brief recap of last week in Apple (up $35.04 or 7.6%)

• Sprint (S) Sold 1.8M iPhones Last Quarter; Best Quarterly Subscriptions in Six Years (February 8 Apple Insider)
• All Things Digital: "Apple to Announce iPad 3 First Week in March" (February 9 AllThingsD)
• Apple Brings Motorola (MMI) Lawsuit To United States (February 10 Reuters)
• Google Increasingly Competing With Apple On Its Own Fronts (February 10 Wall Street Journal)
• Apple Sues Samsung For "Autocorrect" Infringement (February 10 BGR)
• Apple Seeks Injunction Against Galaxy Google's (GOOG) Nexus (February 11 Apple Insider)

Apple had the best week of the year as it surged $35 to bring the three-week total gain to $71. Apple is now at the doorstep of my $500 near-term price target and it is still startling to look at that $460B market capitalization and compare it to other companies. It was less than two years ago when Apple surpassed Microsoft (MSFT) to be the largest technology company in the world. Fast-forward to 2012 and Apple is not only the largest publicly traded company in the world, but is almost twice as large as Microsoft. Remember that no company's stock goes straight up forever.

I took some profits last week by selling calls, and while I am disappointed that I have forgone gains, I understand that Apple is a volatile stock and there will be opportunities to repurchase on dips. This also proves the weaknesses of relying on technical indicators as Apple's indicators all pointed to taking profits right as it climbed seven percent. Most of the price increase last week was likely linked to report that Apple will announce the iPad 3 in March, but is that really news? Apple's product release cycles are quite predictable to even casual observers, and I fear that we are entering yet another cycle of "buy the rumor, sell the news."

As you can see from the news above, Apple has been extremely active recently in litigation. This has been ongoing at an elevated rate for at least six months but has truly intensified in 2012 in terms of both frequency and importance. Overall I stand by my opinion that this is essentially noise and a distraction for Apple investors. Naturally Apple must protect its intellectual property, but I find it difficult to envision any litigation having a material impact on Apple shareholders. What is far more worrisome is the adversarial partnership between Apple and Google/Motorola as both companies rely on each other to succeed. It will be interesting to see how Tim Cook views this relationship after Steve Jobs' passing. Jobs was famous for his adversarial stance against Google and Android.

Below I present three possible scenarios and the potential returns for the Apple options. The first scenario represents a negative outlook for Apple while the final two scenarios are more reasonable. These scenarios are just projections and there is no guarantee that they will come to fruition. Even if you are optimistic it is important to generate both positive and negative circumstances in order to stress your assumptions. As a general rule, selling calls with higher strike prices has greater potential return but additional risk of loss due to the lower (or lack of) downside protection.

Additionally, if you would like even more information, I have prepared a sensitivity analysis for absolute return and percent returns, respectively. After studying the information above, these two charts make it easy to pick a strike price based on where you believe Apple will close at the end of the week. Estimate where you believe Apple will close and select the strike price with the highest return.

With this information, executing a buy-write on AAPL February 18 (Monthly) 500s is the optimal risk-return strategy. Please note that there is a higher probability of being called with these at-the-money options; therefore, you may wait to avoid them for tax purposes. Please consult with your accountant or personal financial planner. If you are uncomfortable with this strategy, I suggest a buy-write 490s, 505s, or 510s. Even if you are extremely bullish you can still profitably sell covered calls; Apple is volatile enough that you will have opportunities to repurchase on dips. An alternative approach is to sell out-of-the-money 485 puts and collect the premium without having to purchase the stock outright. Note that if the stock declines to the strike price, you are obligated to buy the stock, or close out the position.

Disclosure: I am long AAPL, GOOG, and MMI.