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  1. The Ground Rules
  2. A Model Portfolio
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This chapter is from the book

A Model Portfolio

In the examples used in the following chapters, we use our five underlying assumptions to demonstrate how options work within the conservative framework. We also developed a model portfolio of 10 stocks, which we use in various combinations throughout. This helps to tie together the various examples and range of possible outcomes. This model portfolio is by no means a recommendation of stocks you should own. It was selected to include stocks with some common attributes. Seven of the 10 have increased dividends every year for the past 10 years and have also reported low volatility in trading. Eight of the 10 have exhibited rising market value in recent years. (exceptions were Coca-Cola and Xerox). All of these stocks have available both listed options and long-term options (LEAPS®), enabling us to look at a variety of scenarios for each conservative strategy.

Employing a single portfolio throughout the book is also helpful in another way. Not every strategy works well for each stock in our model portfolio, so we can walk through the selection process to demonstrate how a particular strategic decision is made. While your portfolio may contain a number of excellent value investments, some strategies simply do not work at all times or in all cases. You can compare the different potential for strategies across a range of stocks by following the model portfolio throughout the explanations in each chapter.

The values of each stock, current bid, and asked value of every option used in this book are based on the closing prices reported by the Chicago Board of Exchange (CBOE) on October 22, 2004. Table 1–1 summarizes this model portfolio

Is this a "conservative" portfolio? That is a matter of opinion and also depends on the timing of purchase, long-term goals, and the individual’s opinion about the fundamentals for each corporation. These 10 stocks provide a cross section of stocks that illustrate where strategies work well and where they do not work at all. The actual definition of a conservative portfolio is (and should be) ever changing based on changes in the market, in a stock’s market price and volatility, and of course, in emerging information concerning fundamental strength or weakness of a particular company.

Is this information out of date? The data gathered on the closing date—October 22, 2004—is old, but it would be impossible to perpetually update 10 stocks and still meet the publication date of this book. However, all of the information is relative. The relative values of options for a particular stock will probably be consistent from one period to the next—assuming the proximity between closing price and option strike price are about the same, and that months to go until expiration are the same as well. While these relationships can and do change based on ever-changing perceptions about a particular company, the data remains valid. We need to use some measurement in time, and all of these stocks were selected and summarized on the same date. Given all of these qualifications, these closing prices (and the option values used in this book) are fair and reasonable. As of that same date, October 22, 2004, there were about 2,500 stocks that had options available to trade—a lot of choices for conservative investors.

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