Comments on: Calculating Future Returns Using Delta https://www.thebluecollarinvestor.com/calculating-future-returns-using-delta/ Learn how to invest by selling stock options. Fri, 15 Aug 2014 11:30:37 +0000 hourly 1 By: Alan Ellman https://www.thebluecollarinvestor.com/calculating-future-returns-using-delta/#comment-20439 Fri, 15 Aug 2014 11:30:37 +0000 http://www.thebluecollarinvestor.com/?p=9865#comment-20439 In reply to Adrian.

Adrian,

Your calculations (for tax purposes) are correct. However, if the price was @ $44.63 just prior to 4PM ET on expiration Friday, there was no need to buy back the option and incur the expense of $20/contract + commission. Just sell the new option on Monday after the near month option expired worthless. It’s another story if you took this action early in the day or the day before expiration and you were concerned about the strike moving in-the-money. In the latter scenario, rolling would make sense.

You have a clear understanding of the math here.

Keep up the good work.

Alan

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By: Adrian https://www.thebluecollarinvestor.com/calculating-future-returns-using-delta/#comment-20410 Wed, 13 Aug 2014 07:35:18 +0000 http://www.thebluecollarinvestor.com/?p=9865#comment-20410 Alan, thanks for reply again and 2 things just to confirm my understanding.
– The shares worth of $44.82 at expiry is what I use to decide in calculating the next months returns.(this is what I initially had thought)
– Also because the initial premium was $1.65 then my cost basis for tax comes to $43.63, and as I rolled out the option to a $45call again with the BTC@0.20c and the STO@$1.45, then my c/basis goes down from $43.63 to $42.38.
That’s how I best understood it but please tell me if I’m wrong otherwise I guess it’s right. Thanks

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By: Alan Ellman https://www.thebluecollarinvestor.com/calculating-future-returns-using-delta/#comment-20402 Tue, 12 Aug 2014 14:45:58 +0000 http://www.thebluecollarinvestor.com/?p=9865#comment-20402 In reply to Adrian.

Adrian,

It appears you are looking for a cost basis when rolling an option. We would do so when the strike is in-the-money only. So let’s say the price is @ $45.50 on expiration Friday. Our decision is the “roll” or allow assignment. To compare “apples-to-apples” we need to use the same denominator. If we allow assignment we generate $4500 per contract so that’s what our shares are worth at that point in time. If the time value credit from rolling the option is $2, then our return is calculated :

$2/$50 = 4%

Now, if the price is below the strike there is no need to “roll” Simply allow the option to expire worthless and write a new call the next month or sell the shares and use the cash for a new position. In this case, shares are worth $44.82 for purposes of deciding which approach to take. For tax purposes, your cost basis is $45.28 minus the premium amount you initially generated.

Use the Ellman Calculators to determine the best investment decisions at any given point in time and use the Schedule D of the Elite version of the Ellman Calculator to calculate long and short-term capital gains (losses).

Alan

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By: Adrian https://www.thebluecollarinvestor.com/calculating-future-returns-using-delta/#comment-20383 Mon, 11 Aug 2014 07:45:17 +0000 http://www.thebluecollarinvestor.com/?p=9865#comment-20383 Alan, I have another calculation problem to give you based on the lower denominator figure again. For the month of June on one of my papertrades I used ‘GRFS’ and sold an ITM-$45Call.
Price at trade time was $45.28, but ended at $44.82 at expiry.
Now because I wanted to keep this stock and use next month I BTC and STO more options on it.(for July.)
What I am needing to know here is if this opening July return(the BTC/STO amount) and also the final total return should have the $44.82 price as the denominator figure, because of the fact the price didn’t end above $45 the previous month? – is this the cost basis amount to use?(if not then can you tell me why?)

And from your previous answer to my above question I will understand also that I should use the $48,836 investment format, of using the ITM strikes, to get my correct initial and total monthly end returns – even though the book says differently. (I am currently figuring out some past months returns so just need to get the right maths first.)
Thanks for the help.

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By: Roy https://www.thebluecollarinvestor.com/calculating-future-returns-using-delta/#comment-20376 Sun, 10 Aug 2014 19:26:49 +0000 http://www.thebluecollarinvestor.com/?p=9865#comment-20376 Alan,
Thanks so much for your prompt reply and reassuring me that I was on the right track. Obviously, I didn’t plug the numbers into the calculator, thinking that doing it longhand, at least for awhile, would somehow anchor the principles. Sadly, this stupid pencil of mine let me down; showing a remainder of $1.29 and not $2.29 of TV. Until I can find a smarter pencil, I WILL be using the Ellman Calculator.

Thanks,,,,, Roy….

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By: Alan Ellman https://www.thebluecollarinvestor.com/calculating-future-returns-using-delta/#comment-20375 Sun, 10 Aug 2014 16:51:09 +0000 http://www.thebluecollarinvestor.com/?p=9865#comment-20375 In reply to Roy.

Roy,

Good question…it’s always beneficial to understand the thinking that takes place on the other side of the trade…you don’t sound like a beginner!

Before we crunch the numbers I need to point out that the “do nothing strategy” was appropriate mid-contract. On or near expiration Friday, we would evaluate for a possible “rolling exit strategy” but that’s a discussion for another time.

Let’s make the following assumptions:

1- It’s expiration Friday and the shares are trading @ $60.06

2- We decide that no exit strategy is appropriate we “allow” assignment or the sale of our stock.

The key point to remember is that if share price is $0.01 or more above the strike, the shares will be sold @ the strike price unless the Options Clearing Corporation has been instructed otherwise. So we know that our shares will be sold @ $55. Now the math:

1- Of the $9.75 premium, $2.29 is time value or profit and $7.46 is intrinsic value (amount the strike is in-the-money) and not profit but used to buy down our cost basis from $62.46 to $55. So our 1-month return is $229/$5500 = 4.2% for the month per contract.

2- We do lose our shares in this scenario but we also now have $5500 per contract (our original bought down cost basis) to re-invest for the next month’s contract.

4.2% in 1 month…I.ll take that any month.

By the way, these calculations are done automatically for us using the Ellman Calculator as shown in the article screenshot.

You’re off to a good start.

Alan

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By: Roy https://www.thebluecollarinvestor.com/calculating-future-returns-using-delta/#comment-20373 Sun, 10 Aug 2014 16:04:15 +0000 http://www.thebluecollarinvestor.com/?p=9865#comment-20373 Alan,
Being new to this, I never know if my thinking is accurate or not, so please bear with me.

In your example, “Calculating Future Returns Using Delta”, if on expiration Friday the price of the stock were to remain at the current selling price of $60.06,(implementing the do nothing strategy), wouldn’t the buyer of the call exercise his option to mitigate his initial $9.75 investment? And in doing so, leaving you with ($1.29) 2.07% net profit and no stock?

Thanks,,,, Roy…..

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