One of our favorite option-selling strategies is selling cash-secured puts. This involves selling (usually out-of-the-money) put options and securing the possible future contract assignment with the appropriate amount of cash. What about cash-secured call options also referred to as cash covered call options? This latter strategy is quite different from traditional covered call writing in both trade execution and goal. Although this is not one of our go-to option-selling strategies, some of our members have inquired about it so I decided to publish this article to explain how and why it is considered by some investors.
What are cash-secured call options?
- Call options are purchased, giving the option holder the right, but not the obligation, to buy the shares at the strike price by the expiration date
- Cash is set aside in an interest-bearing account to purchase the shares should the option-buyer decide to exercise the option
Goals of the strategy
- Setting a maximum price for a stock we are interested in holding for the long-term (lower price of the stock or strike price at expiration)
- Create an opportunity to reconsider stock purchase during the life of the contract
Breakeven and maximum loss and gain
- The breakeven price is the strike price + option premium cost
- The maximum loss is the price paid for the call option
- The maximum gain is unlimited
Hypothetical example
- Stock BCI is trading at $61.00
- Buy the $60.00 call option for $3.00
- Bullish long-term on the stock
- Breakeven (BE) = $$60.00 + $3.00 = $63.00
- Maximum loss = $3.00
Various outcomes at contract expiration
Outcomes for Cash-Secured Call Options
Stock price is $65.00 at expiration
We have a $2.00 benefit over our BE. Had we purchased at $61.00, our benefit would have been $4.00, $2.00 better.
Stock price is $63.00 at expiration
This is our BE price so no benefit is realized. Had we purchased at $61.00, our benefit would have been $2.00, $2.00 better.
Stock price is $60.00 at expiration
This is $3.00 below our BE and represents our maximum loss (blue cells highlight maximum loss possibilities). Had we purchased at $61.00, our loss would have been $1.00, $2.00 better.
Stock price is $55.00 at expiration
This is $8.00 below our BE but we would allow the option to expire worthless rather than exercise the option. After expiration, the stock can be purchased at $55.00, if still bullish on the security or we can re-assess our evaluation of the stock and move to a new one. This also represents our maximum loss. Had we purchased the stock at $61.00, our loss would have been $6.00, $3.00 worse than using the cash-secured call strategy.
Discussion
The cash-secured call strategy is used to purchase a stock at the lower of the call strike or current market value, thereby guaranteeing a maximum price while also giving the investor a chance to re-assess the bullish assumption during the life of the contract.
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Hi Allen,
New member here. Great website with great info……However, I need your opinion on couple items
1. If a stock drops from the watch list and I already have it as a covered call, do I sell it regardless?
2. Since I am starting this coming Monday, do I select random stocks that are in bold from different sectors?
3. I Can’t decide if I should use the dow 30 list for June or select from the watch list? Which one do you use? I have tolerance for high volatility.
your opinion is much appreciated,
Omar
Omar,
Welcome to our premium member community.
My responses:
1. No. If a stock is in our portfolio but drops from our watch list, we manage it according to the exit strategy arsenal detailed in my books and DVDs, not by its removal from our watch list. Now, if we sell a stock and need a replacement stock, we use the most recent BCI report.
2. All the stocks in the white cells are eligible (assuming adequate option open interest) but the ones in bold have the strongest technicals. Favoring the stocks in bold is a reasonable starting approach but not a requirement.
3. I use the stock watch list for my portfolios and the ETF report for my mother’s. There is no right or wrong here. For a higher (but still conservative) personal risk-tolerance, the stock report watchlist is appropriate. For more conservative investors, the ETF and Dow 30 (Blue Chip) reports should be considered.
Alan
Welcome to our group, Omar.
I think you will find the Reports that come with Membership provide a full range candidates for writing Calls and Cash Secured Puts. Even if your investing strategy evolves to encompass more nuanced options trading the Watchlists and Reports will save hours of research time. Each of us develop combinations of strategies based on our risk tolerance levels. The more experience and skill you obtain what used to appear as high risk may now appear as moderate risk.
As you gain experience and skill, features like Beta and Implied Volatility will work as screens to help you pick the underlings that give you a greater possibility of generating the return appropriate to your risk tolerance level.
In selling Calls and Puts it’s important to remember that it’s the time value that comprises your profit. In ITM calls Intrinsic Value only serves as downside protection to the point of the strike price. In OTM Calls if the stock rises to or above the strike then you would have gotten the rise to the strike price anyway. Exit strategies are to maximize time value. The farther away from ATM, either deeper ITM or farther OTM time value decreases.
When I was younger and more risk tolerant I would screen for very high time values. I was lucky for awhile, then I became cocky and got my clock cleaned. Now I follow the BCI methodology more closely.
We can also learn from each other’s experience here on the blog.
Good luck Omar and, again, welcome aboard.
Hoyt T
Alan and Hoyt,
Outstanding information with your responses. I learn so much on this site.
Thanks.
Marsha
When you are writing covered calls on etfs…qqq spy xlf…, do you take in account earning reports or can you write covered calls year round?
Thanks,
John
John,
One of the advantages of using ETFs is that earnings reports are not a concern so we can use them year round. That said, ex-dividend dates are still a concern if retaining the shares is a portfolio requirement (this is not a requirement for me). As an example, QQQ had a recent ex-date on March 18th and, since it generates 4 dividends per year, has a projected next ex-date around June 18th.
To sum up: Earnings report are not a concern for ETFs and ex-dividend dates can be if retaining the shares is a critical portfolio requirement.
For more information on ex-dates, check out this article I published last year:
https://www.thebluecollarinvestor.com/early-exercise-due-to-dividend-capture-theoretical-and-practical-applications/
Alan
Hi John,
Unfortunately it seems the older I get the lazier and more simple I get in addition :). Yet that can be a wonderful thing when it comes to investing!
I now use only ETF’s in my investment portfolio overwriting some portion each month to avoid individual stock risk and earnings dates altogether. I accept the likely lower returns in exchange for typically less volatility and no need to churn holdings or over trade.
I think the best part of the strategies we discuss here is their flexibility. My hunch is after some run time, some trials, some errors, some wins and some loses we all settle into the stride that suits us best. – Jay
Hi Jay,
I, too, get lazier. I think it’s only human that we fall into “pattern” trading. That is, after a time, our trading begins to fit a pattern. We look for the same”pattern” in our search for candidates etc. And that’s ok as long as it works.:)
If you had to pick five stocks to avoid at all costs I’d bet two of them would be UBER and BYND. Over my most recent Thursday evening drinking sessions with my drinking pals I have empathically stated that I wouldn’t own them under any circumstances.
Well I recently bought 100 shares of UBER and sold ATM Calls and made money. Didn’t see that coming. Then last Tuesday I made the decision that the lack of gravity in BYND had to be short covering. So on Wednesday, 06/12/19, with BYND at $142.44 I bought $143.00 Calls expiring 06/14/19 for $6.49. By the close I was underwater. Thursday I remained underwater. On Friday the Calls shot up to $15.00. Unfortunately due to a death in the family I was tied up Friday morning until about 11:30am. By then the Calls were bouncing between $7.50 and $9.50. Somewhere shortly after 2:00 I sold at $11.00. They went higher and then lower and closed around $8.47.
I ended up making 67.25%, excluding fees and commissions. While I bask in this glory I try not to remember the many times when I went underwater and stayed underwater.
BTW at 10:26am on Friday Barrons dropped an article entitled, “Beyond Meat Stock Shot Higher Because Short Sellers Lost Big Time”. According to the article more than 51% of the free float of stock had been sold short and the premium the shorts were having to pay for the stock was as high as 100%. The article is a must read for any investor who wants to be better informed even if they would never short a stock.
It was like I fell face down into a cow pie and ended up with a strawberry in my mouth.:)
Even a broken clock is right twice a day.
Take care and good luck.
Hoyt
Hey Hoyt,
Great stuff with Uber and BYND! In general I stay away from IPO’s for a while to let them settle but there is no disputing the fact one can make a lot of money on the ones you get right! I think BYND stock was up 400% at one point and heaven knows how much an alert and lucky call buyer might have made :)?
And whereas I try to keep my investing fairly stable and systematic and am “lazy” there I am aggressive and do a little of everything on the trading side of options. It’s just me but I consider selling CC’s & CSP’s and buying/selling LEAPS part of investing, not trading. For the latter I mean the various options buy speculation, verticals, diagonals and calendars I might have open at any given time. Most of those for the next two weeks are bearish. I plan to turn more bullish for July given normal seasonality and if something positive comes out of the G20 on the trade debacle.
I am starting to get nervous about what this fall will bring. So many issues that have real time deadlines and implications for the market all come to a head and my confidence in the cast of players in Washington is low. – Jay
Alan
Could you please take the time to through my question about the differences between CCW and Cash-Secured Put Selling?
So far, I have had a lot of success using covered call writing and I have been teaching and recommending it to other people who want to become financially independent. Since I’m from Belgium, we unfortunately face a huge amount of taxes when trading stocks (buying and selling stocks means we have to pay 0.35% of the share value every time, so 0.70% if we purchased the stock and sell the stock).
Luckily, the premiums from selling options doesn’t undergo those setbacks. Now, my question obviously is: when selling OTM puts we generate a premium without owning the stock. So, we’re leveraging our cash position in order to be prepared if we get assigned. Now, for Belgian investors (including me) that sounds like music to their ears since we don’t have to purchase a particular underlying security to generate cash.
In one of your videos, you’ve mentioned that put selling doesn’t offer you upside potential whereas covered call writing gives the shareholder the opportunity of generating a second income stream beyond the initial premium. But what about selling an in-the-money put to benefit from potential share appreciation knowing the probability of getting assigned is significant when we sell the option? If the price goes well above the strike price we capture the full premium.
Thanks for your thoughts on this matter.
Best
Hamish
Hamish,
I am not a qualified tax expert in any country but I will take a shot at this question, responding in general terms:.
Let me make sure I have this right…
If we buy and sell a $100.00 stock, we would pay a tax, in Belgium, of $0.70? If this is accurate, it would not be enough of a liability to motivate me to change a strategy which has worked well for me over a significant time frame.
Now, if the tax is significantly higher, then selling cash-secured puts would make sense. I would still stick with out-of-the-money puts because we do not want to take possession of the shares and using in-the-money puts enhances the possibility of share assignment. So, we would be trading off a high-tax liability in exchange for share appreciation profit opportunities in this hypothetical.
Once again, a tax of .7% for buying and selling a stock should not cause us to eliminate a strategy that has worked well for us.
For both strategies, we must also be prepared for our entire arsenal of exit strategies when these opportunities present themselves.
For a complete comparative analysis of covered call writing versus selling cash-secured puts, see pages 213 – 229 in my book, “Selling Cash-Secured Puts”.
Alan
On the other hand, less exit strategies with put selling.
Thanks Alan for your quick well-thought-out answer. Maybe I could only sell OTM calls if I’m bullish on the security and sell OTM puts to replace ITM calls. That last approach would be applicable in bearish markets and would vanish some of the taxes.
Hamish,
First, re-examine the real impact a tax of 0.70% will have on your bottom line. If you determine that avoiding purchase or sale of a stock should become an integral part of your strategy then deep OTM calls and deep OTM puts should be considered, lowering your initial time-value return goals. This is similar to our portfolio overwriting methodology.
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 06/14/19.
Also, be sure to check out the latest BCI Training Videos and “Ask Alan” segments. You can view them at The Blue Collar YouTube Channel. For your convenience, the link to the BCI YouTube Channel is:
http://www.youtube.com/user/BlueCollarInvestor
Best,
Barry and The Blue Collar Investor Team
Edit
Hi Alan,
I have a question about stock selection. I recently read where you mentioned that is was a good idea to close a position when there was significant share appreciation, rather than roll up. In the past I had always rolled up, with mixed success. I believe the idea is to avoid profit taking, which could bring the stock down a bit. I did this recently on payc, selling at 228 and closing the 210 option, which was essentially maximized. Clearly this worked out great as payc has fallen to 214.
On Friday, I did the same thing closing maximized positions on glob (90 strike) and veev (155 strike). However, my dilemma or question arises when I look at today’s report. Both veev and glob are on the list, in bold. So now I’m questioning whether these should have been rolled up rather than closed out? I can see that both are above 80 on the slow stochastics indicator.
Are these likely to pull back or are these prime candidates for new investments? Any advice on making this decision would be great.
Thanks, Scott
Scott,
The strategy you are referring to is the mid-contract unwind (MCU) exit strategy. We close the entire position (long stock and short call) when the time value of the premium approaches zero (intrinsic value goes up and time value goes down as share value rises). This allows us to use the newly acquired cash to enter a new position with a different stock or ETF.
If a stock is on our watch list in the last week of a contract (bold or non-bold) we are more likely to roll the option to the next month assuming no earnings report and favorable calculations (“What Now” tab of the Ellman Calculator).
For more information on the MCU strategy:
Complete Encyclopedia- classic edition: Pages 264 – 271
Complete Encyclopedia- Volume 2: Pages 243 – 252
Rolling-up in the same contract month does have application in the Poor Man’s Covered Call strategy (see pages 158 – 160 in our book, “Covered Call Writing Alternative Strategies).
Alan
Hi,
For the premium service of list of stock or ETF, can it be done with ITM covered Call? (Most probably 1SD ITM)
I don’t mind lower return in exchange for greater downside protection.
And in most case the share will get called away, and that a desirable effect because I don’t want to hold on the shares
Thanks
Cindy
Cindy:
If you’re selling ITM covered calls, you may want to just switch to selling Cash-Secured Puts. They are the same payoff profile and typically provide a bit more of a return due to options SKEW. (If you don’t understand the SKEW statement then just ignore it, it’s not a big deal.)
This may also have a positive effect of less commissions paid.
I oftentimes use the PUT side for at-the-money or in-the-money trades. Sometimes, if I’m planning on selling a covered call one-strike out of the money I’ll just use the ITM put, too.
You have a slightly different risk profile in terms of early exercise in some cases but the trade management is the same.
Geoff,
That is a really neat idea about selling ITM CSP’s. I never thought of that one before! I guess I was too stuck in my own thinking about always selling CSP’s OTM to buy at a discount? As my Boston friends would say ITM is “Wicked Bullish” but it’s another arrow for the quiver :)!
Instant or early assignment is unlikely and if the stock goes up all is well. Has downside exposure but taking half the premium and buying OTM puts would help that if uncertain.
Welcome Cindy and all new voices here! – Jay
Cindy,
Our premium stock and ETF reports produce lists of eligible securities for option-selling. This analysis is based on fundamental, technical and common-sense screening. Once we select the best underlyings for our portfolios, option selection is based on overall market assessment, chart technicals, return goals and personal risk-tolerance… all strikes can be used based on these factors.
Alan
Cindy,
Welcome to the group.
The answers you got from Geoff, Jay and Alan were outstanding. I am not going to add anything on that subject.
On another subject, “Cindy, Oh Cindy” was one of my all favorite songs from the 50s. It came out in 1956 by Eddie Fisher although he was not the first to record it. My favorite German version was by Wolfgang Sauer. it was also very popular in Germany by Margot Eskens. Her version stayed in the German top ten for 25 weeks. I always felt the song should be sung by a male as it was a love song to a female.
A word of caution, the German lyrics translated to English are not the same. However the lyrics have a rhythm and to the “German” ear are as beautiful as the English lyrics are to the American ear.
You might check out both versions on You Tube if you have an interest how you name inspired so many people on two continents during the late 50s.
Again, Welcome and good luck in your investing.
Hoyt
Cindy,
Sorry I didn’t spell check or reread for errors which were many.
Hope you can make out what I was trying to say. English really is my first language although it might appear otherwise.:)
Hoyt
Cindy,
I sometimes select ITM strike just to be safe and still get my ROO%. But nothing is guaranteed with this game, as I have found out. Unexpected things happen. I sometimes like to look at Finviz, mouse over the symbols to look the price charts, and and see how those prices randomly go in many directions over time.
You trade off Downside Protection with Time Value or ROO%. So that ITM strike might not meet your ROO% goals so you have to skip that security or write the OTM strike.
If the security has positive instead of mixed fundamentals in the run list, the OTM strike is the better choice, particularly if the current price is near the OTM strike.
Mario
Alan,
I’m rereading your ‘Covered Call Writing Alternative Strategies’. I trade (and paper trade) various PMCC strategies on different underlyings and if share price goes up significantly and short call at expiration is deep ITM I buy back the short call and sell LEAPS. If I’m still bullish on stock I initiate new trade buying higher strike LEAPS and selling higher strike call. However in your book you mention the scenario when entire position is closed only when our assumption on underlying changes and we need to reassess it. Does ‘rolling-out-and-up’ the short call only is a better strategy then the one I use?
Sunny
Sunny,
Interesting question. Both strategies can work. The advantage of your current approach is that, if the trade entry is structured properly (use the 1st tab of the BCI PMCC Calculator), you are closing each trade at a profit.
Rolling the option up is part of our PMCC exit strategy arsenal (both out and in the same contract month). However, if we roll a deep ITM short call, it will result in an option debit (in the form of intrinsic value) and an unrealized long LEAPS credit. This means that we will have to add cash to the trade and funding becomes an issue (addressed in our book, “Covered Call Writing Alternative Strategies”). The latter will also result in less trading commissions. Another possibility is to close a trade and use a different security if there are concerns of profit-taking after a substantial share appreciation.
Bottom line: Do we have the determination and do we have the funding to roll a deep in-the-money short call?
For more information on exit strategies for the PMCC strategy, see pages 149 – 164 of “Covered Call Writing Alternative Strategies”.
Alan
6/18/19 Interesting. Just Overwrote XBI for 4 days. Has spiked up the last few days. Been waiting for a recovery. Since Expiration date is Friday, decided to try a Weekly. Looked promising.
****
XBI Purchased on 4/17/19 at 84.9495
Return cost basis RCB = 84.9495
Current BEP before trade at 81.9323 (Several overwrite and HitDoubles)
****
XBI current price: 86.92
STO 1 Contract 87 Call @0.94 Exp 6/21 after commission = 0.89
New Breakeven BEPn: 81.0423
Additional gain based on current price: .89/86.92 == 1.02% (4 days!)
Gain of XBI Position based on current price: 86.92-BEPn=5.878; %Gain 5.878 / RCB = 6.92%
If it Exercises at strike 87, Gain will 7.01%
Mario
Hey Hoyt,
“To Tweet or not to Tweet?” That is the question.
We are not a political group and I would never insult Shakespeare by comparing him to Trump but the guy does have the market at his fingertips while sitting on the potty at night :). He must love that!
I will be busy Friday afternoon. I have a lot of covered calls likely ITM. I will weigh alternatives for July. Doubt I will over write as much, its a decent month seasonally so I may buy back a few Friday but not roll. June was much better than expected and caught me by surprise so it just shows how out to lunch I am with market timing! – Jay
Hey Jay,
“Though this be madness, yet there is method in it.”
Joseph Heller once said, “Just because you’re paranoid doesn’t mean they aren’t after you.” To which Andy Grove said, “Only the paranoid survive”.
I missed my chance this morning to STC several positions. The paranoid in me said, “Sell”. The gunslinger in me said, “Just a fist full of dollars more”. Should have listened to my paranoid side.
Still accumulating cash even though a short while ago Morgan Stanley predicted a melt up before a real correction.
My core holdings are preforming well and my cash accumulations are expirations of long call positions. Still hanging with long calls on MSFT, MA, V, WDAY, GLW, SQ, WMT, CSCO, INTC, QQQ and XLK. Most were LEAPS as stock substitution as we discussed several blogs ago.
I do think there is too much enthusiasm about a possible rate, now even a 0.50, cut this month and Trump XI meeting at the G20 June 28-29.
My ability to market time left the station a long time ago. I keep telling myself that I am not going be caught with cards in my hands on expiration Friday, monthly or weekly, but I invariably do so I understand the intensity of Fridays.
Take care and Good luck,
Hoyt
Hoyt,
Wasn’t it Woody Allen who said if you are paranoid you only have to be right once to make it all worth while :)? – Jay
Why isn’t it a goal to have your stock exercised on every trade?
Bert
One good reason – Make more money. No reason to end holding the security with an exercise if you have an ITM (In the money) option at expiration Friday.
If there are no earnings reports in the next cycle, you can, with a BTC (Buy to close) and STO (Sell to open)::
* (A) roll out your option (same strike) for the next cycle
* (B) roll out and up (higher strike) for the next cycle.
Mario
Hey Bert,
As always Mario is absolutely right!
In my case I have a few covered calls likely to be ITM Friday afternoon. With all the time value gone my cost to close will be less than the initial premium I received so there is a gain on the option plus the ETF has gone up so why simply let it get called away?
The tougher decisions are when the stock/ETF goes to the moon and you are left at the station with a nice trade gain but the daunting task of paying a lot to buy back a deep in the money option. I say let those go and don’t chase. It worked. Move on. That’s also why I only over write half of any position unless I am bearish. My two cents anyway :)! – Jay
Ah, and remember ETF have no Earning Reports, so you roll them as long as you can, or even leave them as a long position when needed.
Jay mentioned the case when a security gaps up with lots of intrinsic value and very low time value, and it happens you are:
…. in the first weeks of a cycle (up to Wed of Week 3/4) and
…. there are other opportunities to invest to recoup your closing cost earn another 1% or more of income then
…..you can actually unwind (Mid Contract Unwind MCU) the whole position and invest again in a covered call.
Remember you can Search the blog for MCU and other questions you may have. Will keep you busy. The MCU is also covered with the Unwind Tab of the Elite Calculator. You can guarantee a certain loss when you unwind with a Limit Combination order to sell you security and close your option.
Mario
One other point… regarding exercise.
If you have an ITM option at Expiration a combination Roll order is one base commission.
If you let your position go through exercise and then purchase a covered call Monday after expiration, that would be two base commissions more with Etrade Plus the option charge to buy a covered call (Buy stock, sell option). With Fidelity (I use both), however it would be one base commission more plus option charge for the combination covered call order.
Mario
One add to Mario’s comments is if you trade often and have not questioned your broker’s commission structure lately you should.
TastyWorks is setting the pace, it’s a competitive game and we can benefit. When I called my broker and told them they were not competitive they dropped my rates to match TW on the spot. I did not threaten to leave. I simply pointed out they were not in the game. They got the message. – Jay
Bert,
My goal IS to have the stock exercised (assigned) on every monthly trade.
It is always very tempting to roll when the stock has gone up significantly, but you can always buy it back next week if you wish, and sell a new CC.
No need to risk losing what you have already gained.
Roni
Premium members:
This week’s 8-page report of top-performing ETFs and analysis of ALL Select Sector Components has been uploaded to your premium site. The report also lists Top-performing ETFs with Weekly options as well as the implied volatility of all eligible candidates.
New members check out the video user guide located above the recent reports.
For your convenience, here is the link to login to the premium site:
https://www.thebluecollarinvestor.com/member/login.php
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Alan and the BCI team