Portfolio overwriting is a covered call writing-like strategy where deep out-of-the-money (OTM) calls are sold against our long-term buy-and-hold securities. Typically, these stocks and exchange-traded funds (ETFs) are of a low cost-basis and subject to capital gains tax if sold via exercise. This article will highlight 3 ways to guide us to appropriate strike selections.
3 ways to select portfolio overwriting strikes
- Delta: Approximate probability of a strike expiring in-the-money (ITM) at expiration and subject to exercise (for all definitions of Delta, click here))
- Implied volatility (IV): Establishing a trading range for a specific contract cycle, with an 84% probability of accuracy, using option pricing in the marketplace
- Annualized return goal: Determine a modest annual % return and selecting the strike that will generate the appropriate return (an annualized return goal of 6% will set a 1-month goal of 1/2%)
Real-life option-chain for Dow (2/16/2023 – 3/17/2023)
DOW, Inc. Option-Chain
Note the following:
- With DOW trading at $58.74, the near-the-money $60.00 strike has an implied volatility of 23
- The $62.50 deep OTM strike has a Delta of 14, resulting in an approximate 86% probability of the strike expiring OTM
Using IV to determine the 29-day trading range with an 84% probability of accuracy using the BCI Expected Price Movement Calculator (available to premium members in the “resources/downloads” section of the member site):
DOW: IV Trading Range Calculations
The upper end of the range is $62.55, so we will seek a strike near that price and see if it meets our return goal range, say 5% – 6% annualized, as a reasonable goal. The option-chain shows that the $62.50 strike aligns with the upper end of the IV range and also has a similar 86% probability of success using Delta. Let’s calculate that strike.
The BCI Trade Management Calculator (TMC)
DOW: Portfolio Overwriting Calculations
The option-chain shows a premium of $0.22 (blue arrow) resulting in an annualized return of 4.56%, aligning with our 5$ – 6% annualized goal.
Discussion
Portfolio overwriting is a strategy where our goals are to generate modest premium cash flow while crafting trades with a high probability of avoiding exercise. Strike selection can be accomplished using Delta, implied volatility or an annualized return goal range, or a combination of the 3 to get a consensus.
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Dr. Ellman,
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July 11th 10 AM ET – 11 AM ET
Covered Call Writing: Multiple Applications Based on Current Market Conditions
Real-life examples with Invesco QQQ Trust (Nasdaq: QQQ)
Covered call writing is a low-risk option-selling strategy geared to generating cash flow with capital preservation a key requirement. This presentation will demonstrate how the strategy can be crafted to benefit in all market environments. Market situations highlighted are:
- Normal to bull markets
- Bear and volatile markets
- Low interest-rate environments
A popular large-cap technology exchange-traded fund, Invesco QQQ Trust, will be used to establish rules and guidelines to benefit in these market circumstances.
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Hi Alan,
I think?? you like to start with the IBD 50 to identify CC candidates. And I know you use other sources. However, when reviewing the bold stocks in your 6/23/23 watch list, very few of them are found in the IBD 50 list in the 6/26/23 IBD newspaper.
I know 6/23/23 is prior to 6/26/23, but the IBD 50 list does not fluctuate that much from week to week.
Is what I’m seeing correct or is my review process flawed?
All the Best – Stacy!
Reviewing column 3 of your report confirmed my suspicion that your bold stocks are not coming from the IBD 50.
All the Best – Stacy!
Stacy,
I’m happy to clarify.
The IBD 50 is 1 of the resources we you before continuing the BCI screening process. We also include our BCI database of eligible securities among others.
Stocks from these resources then go through our rigorous fundamental, technical and common-sense screens. The securities that survive all screens become eligible stocks on our premium member watch list.
In last week’s report, 12 of the IBD 50 stocks were on our list. The remaining eligible securities came from other resources, outside the IBD 50.
A “bold” stock on our watch list does not reflect the resource it came from, but rather a security that passed all our screens with 100% bullish technical indicators. Bold stocks can come from any of our stated resources.
Alan
Premium Members,
This week’s Weekly Stock Screen And Watch List has been uploaded to The Blue Collar Investor Premium Member site and is available for download in the “Reports” section. Look for the report dated 06/30/23.
Also, be sure to check out the latest BCI Training Videos and “Ask Alan” segments. You can view them on The Blue Collar YouTube Channel. For your convenience, the link to the BCI YouTube Channel is:
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Barry and The Blue Collar Investor Team
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Alan,
I sell mostly weekly puts. On weeks like this one where there are only 31/2 trading days, do you recommend just skipping this week, or selling a 2 week option. There seems to be no opportunities in a shortened week like this.
Thank you,
Nancy
Nancy,
First, we must ask ourselves why we are using weekly expirations. Is it to avoid weekend risk? Perhaps to generate higher annualized returns?
If we decide that we should stick to the weekly plan, returns for this week will not be impressive but can still be significant.
For example, on Monday, we could have sold a 7/7/2023 $407.50 NVDA put with an unexercised annualized return of > 11% (based on a 1-week return). Now, this is certainly not life changing, but still more than double that of risk-free returns.
Alan
Premium members:
This week’s 4-page report of top-performing ETFs has been uploaded to your premium site. The Select Sector SPDR section is now crafted to align with our streamlined (CEO) approach to covered call writing. The report also lists Top-performing ETFs with Weekly options, mid-week market tone as well as the implied volatility of all eligible candidates.
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Alan and the BCI team