took the rollover plunge

[KTP]

I went ahead and converted $5000 of my traditional IRA into a Roth. This is going to be an experiment to see how far I can take this $5K and I am keeping the rest of the traditional IRA in cash and possibly a few large caps for dividend return.

I have until October 2011 to recharacterize this Roth back to the traditional IRA if my investments go sour. The beauty of this is I get to take Uncle Sam along for the ride, and he ponies up 33% of my investment capital (if the investments go bad, I recharacterize and don't owe any tax).

My goal for 2011 is to turn this $5000 into $15000 and pay the $1600 in tax, then stick the $15,000 in a long term Vanguard growth fund and forget about it for 20 years or so. I would then start again with another $5000 rollover for 2012. I could do multiple of these accounts in one year and then recharacterize the underperformers, but I want to minimize the overall risk to my traditional IRA balance which is funding these.

Anyway, that is the plan. If it works out it will be a bit of extra help for the old retirement fund. At least until they change the rules on us about Roths being tax free withdrawal.

[Slug]

I like this plan. A lot. I don't expect rules to stay like this, but as long as they are this way, why not take advantage of the situation.

[KTP]

Well, here is a small update on how I positioned myself with this Roth rollover from my IRA

IRA balance after my October/November speculation: $51,000

Cost basis (after tax contributions): $0

Roth taxable rollover amount: $5000

Tax due in 2011 if I don't recharacterize by October 2011: $1600

I bought 23 July 2011 $26 msft calls at $2.15 with the Roth money, for a total investment (gamble?) of $4972.55 with commissions. I put in a good for 60 days order to sell these options at a price of $4.35 which would give me a 100% return and a $10,000 Roth balance.

I then used the remaining IRA money to buy 1700 shares of microsoft at $27.30 and sold 17 Feb 2011 $28 msft calls at $0.82 (immediately receiving $1394 profit into my IRA account). I used the buy-write feature to do this (first time writing a call, kind of scary, but it is a covered call, very conservative).

Analyzing the risks:

Best case:

Microsoft either blows out earnings in Jan or gives a very high guidance for the rest of 2011 and shares hit 52 week high of $31.50ish. My Roth calls are sold and I have $10,000 in cash there for $1600 in taxes (16% tax rate) and the 17 Feb $28 contracts I wrote against my 1700 shares are called, resulting in my 1700 shares purchased at $27.30 being sold at $28 (a profit of $1190). So I end up with an IRA balance of $53600 and a Roth balance of $10000. This would make me very happy

Bad case:

Microsoft doesn't break $28 by Feb, but hovers around my purchase price of $27.30, meaning the only profit I make is the $1394 from the sale of the 17 Feb contracts. Roth would probably be held until April or May to try and reach break even on a spike, or it could be sold at any time for the remaining time value and small intrinsic value. Perhaps losing $2500 of the $5000 would be the bad case scenario, but then the Roth could be recharacterized so the $1600 in tax is not owed.

Worst case:

Everyone switches to a 10 inch screen Ipad to do all of their work, causing a great increase in the stock price of eye glass manufacturers (maybe some long calls here to hedge?). Microsoft shares drop to 10x earnings (about $27.30 a share) and I end up about where I put the bad case. Recharacterize Roth and try again on another stock (or buy Puts this time on netflix, which by then is trading at 1.02 x 10^14 foward earnings).

[Slug]

I look forward to the next follow-up. You must be drinking lots of MSFT flavored Kool-Aid to put all your eggs in 1 basket.

[KTP]

Originally Posted by Slug

I look forward to the next follow-up. You must be drinking lots of MSFT flavored Kool-Aid to put all your eggs in 1 basket.

The only other thing I could think of to do with the $51,000 is leave it in cash, which seemed like a guaranteed way to lose money due to inflation. At least this way I capture dividends plus a small profit (selling the calls), and have extremely little downside risk. Owning 1700 shares of microsoft with a foward PE of less than 10 and paying a 2.5% divy is not the same as owning 1700 shares of a biotech or an overbought growth company. Any downside pressure on the stock will be extremely short term past about $24/share, so really I am only risking $3.30 x 1700, and only realizing that loss if I should sell at the $24 price.

Commisions are too high for my small balance for me to spread the risk out to many companies, even if I could find one with the same risk level as microsoft (little downside, major upside potential). IBM might be ok, or perhaps RIG, but they didn't seem quite as good. I did think long and hard about buying RIG and selling May calls though.