When we sell covered call and cash-secured put options, we are selling listed options or options listed on stock exchanges. There are several distinct differences between listed options and Employee Stock Options (ESOs). This article will focus in on these distinctions.
What is a listed option?
Also called exchange-traded options, these securities are sold on a registered exchange such as the Chicago Board of Options Exchange (CBOE) or Euronext. Listed options cover securities such as stocks, ETFs (exchange-traded funds), market indexes and commodities. All listed options have stated exercise prices and expiration dates.
What is an employee stock option (ESO)?
An employee stock option (ESO) is a stock option granted to certain employees of a company. ESOs carry the right, but not the obligation, to buy a certain number of shares in the company at a predetermined price.
Placing a value on ESOs
This is extremely tricky. ESOs have no quoted values and values are based on theoretical pricing models. Many are granted with ten years in life from the granting date and there are no listed options that extend that far into the future (LEAPS may extend out thirty months but no longer). Employers are required to specify a theoretical value to ESOs on the granting date but many factors may make this figure inaccurate. Factors such as expected length of employment, expected holding time and volatility assumptions can skew accurate values.
ESOs and listed options: A comparison chart
ESOs versus Listed Options
Discussion
There are several discerning features between employee stock options and the listed options we use for covered call writing and selling cash-secured puts. Not mentioned in the comparison chart is that employee stock options are generally given to management and key employees as a way of rewarding them in hopes of retaining them in the corporation. It is important to those who receive ESOs to understand these distinguishing characteristics.
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Upcoming live events
September 10th, 2016
Silicon Valley (San Francisco) California
8:30 AM – 12 PM
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September 29th, 2016
9 PM ET
Blue Hour webinar 2: “Using Put Options to Buy and Sell Stock”
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October 17th, 2016 (originally 10/24)
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November 5, 2016
Plainview, New York
Saturday morning 3-hour workshop at the Plainview Holiday Inn. I am the only speaker and plan an information-packed presentation covering 5 actionable ways to make money or buy a stock at a discount using both call and put options. Discounted fee through 8/31/16.
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Market tone
Global rose slightly this week as did energy prices. The CBOE Volatility Index (VIX) fell from 14 to 11.98. This week’s reports and international news of importance:
- The United States created 151,000 jobs in August, fewer than the consensus estimate of 180,000. However, the data for July were revised up to 275,000 from 255,000
- The unemployment rate held steady at 4.9%
- By a vote of 61 to 20, Brazil’s Senate voted to remove President Dilma Rousseff from office on Wednesday after finding her guilty of manipulating the federal budget
- The European Commission ruled that the Irish government granted illegal state aid to Apple in the form of artificially low tax rates and has ordered the US tech giant to pay Ireland $14.5 billion in back taxes
- Despite the European Central Bank adoption of negative deposit rates just over two years ago, and quantitative easing over a year ago, eurozone inflation remains at extremely low levels. On Wednesday, core consumer price inflation was reported at 0.8% year over year, less than half the ECB’s target of near 2
- The eurozone unemployment held steady for the third month in-a-row in July, at 10.1%, more than double the US rate
- Global manufacturing was sluggish in August — with one exception. UK manufacturing rebounded strongly, reversing a decline in July data in the wake of the Brexit vote. The UK Manufacturing Purchasing Managers’ Index jumped 5 points to 53.3, the largest monthly gain in the index’s 25 year history
- The United States, in contrast, saw an unexpected contraction in the manufacturing sector last month, with the US PMI falling to 49.4 from 52.6
- China’s official and Caixin manufacturing PMIs converged near 50, while eurozone manufacturing growth eased to 51.7 in August from 52.0. PMI readings below 50 indicate contraction, while those above 50 indicate expansion
- Activity has been even more muted than usual in US stock markets this summer. August saw the fourth-narrowest trading range since 1928, according to the Wall Street Journal
THE WEEK AHEAD
- Eurozone retail sales are reported on Monday, September 5th
- The Reserve Bank of Australia meets to set interest rates on Tuesday, September 6th
- Eurozone Q2 gross domestic product is released on Tuesday, September 6th
- The Bank of Canada meets to set interest rates on Wednesday, September 7th
- The US Federal Reserve’s Beige Book is released on Wednesday, September 7th
- The ECB Governing Council meets to set policy on Thursday, September 8th
For the week, the S&P 500 declined by 0.68% for a year-to-date return of +6.12%.
Summary
IBD: Uptrend under pressure
GMI: 5/6- Buy signal since market close of July 1, 2016
BCI: Moderately bullish favoring out-of-the-money strikes 3-to-2
WHAT THE BROAD MARKET INDICATORS (S&P 500 AND VIX) ARE TELLING US
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 09/02/16.
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
Alan,
I’m a new member and also new to options. I’m reviewing the report from last night and digesting all the information. My first question (I’m sure I’ll have more) is the purpose of the Ex-Div date information in the column all the way to the right.
Thanks,
Marie
Marie,
We include this information in our stock reports because the main reason for early exercise of our options (shares sold prior to contract expiration) is when there is a dividend event prior to expiration. In order to capture a dividend shares must be owned by the ex-dividend date (purchased the day prior) and so the most common time for early exercise (which is quite rare) is the day prior to the ex-date.
If retaining our shares is a priority, then when we sell an option it should be sold on the ex-date at the earliest that month. I suggest waiting until the day after the ex-date. There are other ways of circumnavigating ex-dividend dates. See the “portfolio overwriting” chapters in both “Complete Encyclopedias…” for more information on ex-dividend dates.
Alan
I read with interest many new friends have joined BCI.
Welcome to all and please join our comment board!
I am an old buzzard who has been around here a while :).
The gist of this board has been Q&A with Alan which will always be valuable. What I would love to read more about is what fellow investors are doing and where they see the market going along this shared road.
In this low VIX, low premium environment I am not writing as many calls – only half of any position – since the downside protection is small when compared to limiting the upside.
Similarly I am not selling cash secured puts since this has historically been the time of year when the rug gets pulled out from under us :).
Curious how others are managing the current market? – Jay
Jay,
I’ve been worried about the Fed raising rates and so I’ve been using Alan’s etf list going for 1-2 percent monthly returns. So far so good. Will go back to stocks once rates go up and the market shows its reaction.
Good luck.
Marie
Thanks Marie, I am with you and have had a preference for ETF’s recently.
I found it interesting our Fed mentioned possible asset purchases beyond bonds. The Bank of Japan has bought and says it will continue to buy ETF’s to support it’s market. I would not want to be holding inverse funds if our Fed starts doing that :). – Jay
Hi Jay,
I realize that I have not talked much about my actual trading, so I will start today.
After years of experimenting, I am now sticking exclusively to 1 month covered call selling to generate consistent gains.
1 – I buy/write always to protect my position.
2 – I follow every advice from Alan
3 – Almost never do market, always try to negotiate a lower spread
4 – My intention is ti be exercised, and make at least 2% gain.
5 – I chose some of the bold stoks from the BCI list.
6 – The rest are Wall Street darlings, such as FB, PANW, NFLX, NVDA, SWKS, TSLA, etc.
7 – My total positions are 10 or 12
That’s all I remember now.
Have a nice week – Roni
Alan,
Thanks for your great work. I should become a member in the near future…
I’ve been hearing a lot about the Poor Man’s Covered Call (and Covered Put). Perhaps you could do a video series covering this strategy, including adjustment strategies.
More specifically, asked as a semi-rookie: what action should I take in the situation where the stock price begins to exceed the short call strike?
Thanks again.
William
William,
I think this is an excellent idea and I’ve made a note of it on my “to-do” list. Thank you.
If the stock price is higher than the strike near expiration and we want to retain the shares, buy back the option prior to 4 PM ET on expiration Friday and then sell the next month’s same or higher strike. See the exit strategy chapters in both “Complete Encyclopedias” for specific examples with charts and graphs of rolling options.
Alan
Alan,
discovered something interesting this evening. On 2/28/16 I copied all of your recommendations to a spreadsheet with the expectation of sifting to find 1 or 2 stocks I would subsequently buy from that list. They were copied to a watchlist and the price/share was recorded for that date. Well, in doing some clean up of files I came across the spreadsheet which I had completely forgotten about and the recommended stocks that were copied to the spreadsheet, net of losses, were up over $27,000. winners were 4:1 to losers. Another confirmation of how well your system works. each position presumed 100 shares..stunning, additionally, there were not any what I would call catastrophic losses and did not include covered call, just straight up appreciation.
As we used to say in the Corps…. OORAH!
Kevin
Kevin,
I was Army but I love the Corps :)!
I can offer a similar testimonial. I started using Barry and Alan’s list in the summer of 2013. I populated my virtual account at Options House with all the picks at the time, practiced covered calls for a couple months adding more stocks from the lists then went live.
I never “sold” the stocks in the virtual account and at the time the OH program was not sophisticated enough to call them away so I had to do the math separately. I finally said “the heck with it” when I went live and forgot about the virtual account.
Well, about a year later I wanted to start paper trading spreads and when I went back to the virtual account all those stocks had gone up more than my real account with all my frequent trading! But that was a very bullish period for the market.
Still, I guess there is something to the old adage “A portfolio is like a bar of soap: the more you handle it the smaller it gets” and why many find value in over writing a set portfolio. – Jay
Alan, I have read a recent article called “Setting the 20%/10% guidelines” and in it there is mention of a new rule for buying back our options after rollouts.
With the backtesting I have been doing it seems like these levels will be too low for me, so I am wondering if it is alright to just use the initial guideline based on just the sold option value only?
Are you really going to include this new 20%/10% guideline, after the rollouts, into your resources section as well?
Another recent article I want to go over is that of the one about put options and ER’s.
When I once asked you about buying protective put options on a stock that had earnings in the month, you said it’s still better to close-out the whole stock position and wait until after the E.R before re-entering the stock. But this recent article has described of using these put options on stocks that had the past history of beating the earnings guidance.
Would this now mean we can use stocks with ER’s in the month but only under the 2 conditions of seeing there has been a positive history of beating the ER guidance, & also that we buy the put options too?
I have personally always thought it too risky to hold any stock over an ER period regardless of its recent earnings performance but I suppose there are options around it. Thanks
John,
I have no issue with members “tweaking” my rules and guidelines if those adjustments meet your trading style. One of the reasons for the 20/10% guidelines is I want to be sure we retain 80-90% of our original premium profit. When rolling our actual profit is impacted by the cost-to-close. If using only the new premium generated, that cost-to-close is not deducted. As long as we have an understanding as to where we stand on the option side, it is okay to veer from 20%/10% and that is why I call it a guideline and not a hard-and-fast rule.
Alan
Allan
I have recently found your website and am fairly new to writing covered calls as well. I have been in the market for over 30 years and started writing covered calls only about 2 months before discovering The Blue Collar Investor. I have purchased 3 of your books and appreciate the effort and quality of the content you provide. I am sure you hear from many people and variations of their strategies. I do not want to take much of your time so will keep to a few questions that may seem simple but will provide me with a wealth of information that I have been looking for. Any insight you can provide in response to this mail or reference to a blog you have already written would be greatly appreciated.
—————————————
Item 1: You mentioned in one of your writings that you have approximately 50 ~ 70 trades a month. My strategy has been limited to a few high quality stocks (XOM, CVX, VZ, T, GE, AMZN, PFE) no more than 7 -8 stock that pay good dividends that I would be fine with a buy and hold strategy with. I sell covered calls on these stock…and actually just XOM and CVX now.
Question 1: Outside of a high level of diversification are there any other issues not evident with this strategy?
——————————————
Item 2: I write covered calls on a weekly (5 day) or be maybe 2 weeks(10 day) expiration. At the end of each week I let expire if out of the money. I believe when you first wrote your books options expired on the 3rd Friday of each month and sometime after this they are now weekly…I have not found any content addressing your thoughts on shorter expirations although it may be there and I just have not found it. So I put in 1 trade per week X 4 weeks a month…~48/year…with the few stocks shown.
Question 2: Are there strategies or strong recommendations either way for shorter term expirations like mentioned here?
Thank you Allan,
Laszlo
Laszlo,
Items 1: Outside of diversification, writing calls on stocks we want to retain will require us to master:
1- Appropriate strike selection (favor out-of-the-money)
2- How and when to “roll” options
3- How to avoid ex-dividend dates
For more information of this topic check the “Portfolio Overwriting” chapters in both Complete Encyclopedias”.
Item 2: I prefer Monthlys over Weeklys but we can be successful with both. Some advantages of Weeklys include circumnavigating earnings reports and possibly generating higher annualized returns (I’m not totally convinced of this). Disadvantages include lower option liquidity, wider spreads and quadruple the number and amount of commissions. I have also written about Weeklys in both Encyclopedias especially in Volume 2 (pages 139 – 142).
Alan
Alan,
I have a couple questions for you after reading your book on Ency Covered Call Writing:
1. I am a little confuse on the strike calendar. If the regular expiration falls on the third Friday of each month (in the case of September 16th), do we count the first week of the four week cycle from August 29th?
2. Stock like Intel has weekly options. Is the weekly option stop trading on Friday? And how does time value works on these weekly options?
Thanks
Tommy
Tommy,
1- The first week of a contract starts after expiration of the previous contract which is in the previous month. For example, the September monthly contract expires on the 3rd Friday of September, September 16th. The first week of the October contracts starts on Monday September 19th and expires on October 21st. Option contract months do not coincide with calendar months and can run 4 or 5 weeks.
2- Weekly options do expire on Fridays like the Monthlys. Time value erosion of our options is greater for Weeklys than Monthlys as Theta has its greatest impact the closer we are to expiration. There are pros (like circumnavigating earnings reports) and cons (like quadruple the amount of trading commissions) to Weeklys that must be fully understood before making a decision as to whether they are best for our portfolios.
Alan
Alan, thanks for that recent reply and I will use my own guideline as you say it is O.K to do, and as for the put option versus ER issue I guess there is a possibility I could look back over ER consensus beats, and if all looks good then possibly continue with the stock as long as put options are also applied.
Now some things to ask you are,-
1. Do I need to constantly have a list of stocks ready for in case I wanted to do a MCU in the middle of the month?
2. How do I go about setting up an email alert for the MCU on any stock to be trading at parity?
3. I have been using ETF’s and seen there is a Net-asset value for each one. And had been thinking whether if this ‘NAV’ is less than the current price at the time I want to put on a trade, then shouldn’t I be more cautious/conservative & more likely go for selling an ITM strike because of this?(& do the opposite for if NAV is higher than current stock price.)
Really enjoying your book at the moment and am feverishly reading through it when I get the chance to.
Thanks
John,
My responses:
1- Yes, we need a watch list available in case we need a replacement security mid-contract. That’s why we provide weekly stock and ETF reports to our members (a new one coming tonight)
2- Take a look at an options chain and see how far in-the-money current options trade at parity. Then use that as a guide for alerts. It will vary from stock to stock.
3- I have never studied or back tested ETF NAV stats as they relate to security pricing so I will have to say I don’t know. However, I would suspect (best guess) that any deviations should be relatively minor due to the redemption mechanism used by ETFs. Redemption mechanisms keep an ETF’s market value and NAV value reasonably close.
Alan
2 seminars just added:
September 23, 2016: “All Stars of Option Trading” at the CBOE (Chicago Board Options Exchange)
July 15, 2017: Washington DC Chapter of AAII Summer Workshop …also speaking Dr. Eric Wish
More information to follow as I receive it.
Alan
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.
For your convenience, here is the link to login to the premium site:
https://www.thebluecollarinvestor.com/member/login.php
NOT A PREMIUM MEMBER? Check out this link:
https://www.thebluecollarinvestor.com/membership.shtml
Alan and the BCI team
Alan,
I’m still somewhat new with BCI, and have a few general questions about timing trades, particularly for new positions within the monthly option cycle, as well as within the week:
Do you recommend only enter new covered-call positions during the first week of an options cycle, or the last week of the previous cycle, vs entering into a new position in the second or third week of the month?
Do you usually only trade within the current option cycle, except perhaps at the end of the cycle?
Under what circumstances would you sell a call for an expiration date within the next or farther out option cycles?
During a given week, let’s say I’m traveling on Monday, or even Tuesday and can’t get to my computer to do any trades. How late in the week is too late to trade using that week’s Premium Report? If I can’t get to it until Wednesday, should I just wait until the next week?
I would appreciate your help with these question. I find myself getting hung up them.
Thanks,
Steve
Steve,
My responses:
1- Yes, due to the impact of Theta (time value erosion) it’s best to enter trades early in the current contract.
2- Yes, for continuity purposes all my trades expire on the same date…rare exceptions.
3- We may go 2 months out when avoiding ex-dividend dates (see the chapters on “Portfolio Overwriting” in both Encyclopedias…).
4- Each weekly stock and ETF report is applicable for the entire week. Always re-check prices to make sure that an unexpected negative event did not occur since the weekend.
Alan