Covered call writing is associated with 2 legs: we are long the stock and short the call option. If we add a protective put, we have converted the covered call trade to a collar trade which has both a floor (put strike) and a ceiling (call strike). The traditional collar trades uses out-of-the-money strikes for both option positions. This article will simplify the process for determining which are the most appropriate strike prices to choose.
Setting our initial time-value return goal range for collar trades
Since we are incurring a debit when we buy the protective put, we must select a lower range than we would for traditional covered call writing. The higher the returns, the greater the risk so we must find a range that aligns with our personal risk-tolerance. This will vary from investor-to-investor. For me, it’s 2% – 4% and up to 6% in bull markets for 1-month near-the-money call options. For collars, we would adjust that range depending on how much protection we are seeking. A reasonable range for collars for those seeking returns similar to mine would be 1% – 2% per month and up to 3% in bull markets (in strong bull markets, we may opt not to buy protective puts).
- The $79.00 call generated $4.00 per-share
- The $70.00 put costs $1.84 per-share
Collar Calculations with the BCI Collar Calculator
Initial time-value results
- The net 1-month time-value return is 2.79%
- Maximum 1-month return with upside potential is 4.82%
- The maximum 1-month loss is 6.81%
Collar strikes are generally out-of-the-money. We first set the initial time-value return goal range that fits our personal risk-tolerance profile for the call premium and then halve that amount to buy the protective put. The option-chain will guide us to those appropriate strike selections.
For more information on the Collar Strategy
Your generous testimonials
Over the years, the BCI community has been incredibly gracious by sending our BCI team email testimonials sharing stories as to what our educational content has meant to their families. Moving forward, we have decided to share some of these testimonials in our blog articles. We will never use a last name unless given permission:
I love your books and videos and how you got into options. I’ve been investing in stocks and BUYING options mostly until I realized how often I lost money on them. It was you that convinced me to be on the other side of the trade. I’ve recommended your books to many.
Write another book PLEASE.
1. Mad Hedge Webinar Event: Covered Call Writing Multiple Applications
March 11, 2021
11 AM ET
2. Money Show Virtual Event
March 17. 2021
12:10 PM – 12:40 PM
Details to follow
3. Market Madness Summit
12 PM ET
Using Both Covered Call Writing and Put-Selling to Generate
Monthly Cash Flow and Buy Stocks at a Discount
The PCP (put-call-put) Strategy (wheel strategy)
4. AAII Research Triangle NC
April 10,2021 at 10 AM ET
Zoom webinar- details to follow
5. Wealth365 Summit
April 19th – 24th
Details to follow
Market tone data is now located on page 1 of our premium member stock reports and page 1 of our mid-week ETF reports.
As a new premium member, I looked at the ETF report you sent out this week.
I picked IWF and the rest is detailed below:
I use Charles Schwab’a platform which shows real-time data.
Bought 500 shares of IWM @ $219.40 for $109,700.
Wrote a CALL option briefly described as: 5 IWM 03/05/2021 220.00 C @ Limit $3.68
Got paid $1840 for the 5 contracts
If assigned next Friday, I will get another 500 X 0.60 = 300 (Sale price minus the purchase price of $0.60) Total profit = 1840 + 300 = $1870. I think it amounts to about 1.7%
Best regards, which gives me the most
Your calculations are accurate. Your initial time-value 7-day return is 1.7%. If shares are sold at the strike on Friday, it will become a realized 7-day return of 1.86%.
Make sure the 10% BTC limit order is in place especially because of the recent increase in market volatility.
Hi Alan! My question is around smaller account size; I’ve got some analysis paralysis around how to allocate.
Using a scenario where someone has a $12K portfolio, in your experience, where have others been successful?
My inclination is go with an ETF and then a lower priced stock from the weekly screener. I have great confidence in the $10-$20 priced stocks in the weekly list! Thanks for that!
The matrix as I see it;
A. Mix of wider breadth of lower priced ($5-$10) stocks capping at $2000? i.e. 5 positions of $2000
B. Mix of low breadth of higher priced ($30-$50) stocks capping at $2000? i.e. 2-4 positions of $2000
C. Mix of an ETF and stock
D. Mix of ETF only
Thanks for taking my question!
For a portfolio of $12k, using ETFs will provide the greatest diversification. Once built up to the $35k – $50k range, we can incorporate individual stocks into our option-selling portfolios and also be able to achieve appropriate diversification.
I use ETFs in my mother’s portfolio.
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 02/26/21.
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:
On the front page of the Weekly Stock Report, we now display the Top 10 ETFs, the Top SPDR Sector Funds, and the 4 single Inverse Index Funds. They are sorted using the 1-month performances from the Wednesday night ETF report and the prices from the weekend close.
Premium Members…the report for next week, 03/05/21, will be uploaded on Monday, 03/08/21, late in the day.
Barry and The Blue Collar Investor Team
I am new to options and see you have programs for covered call writing and cash secured puts. Which do you recommend I start with?
I’m very excited to get going.
Definitely start with covered call writing. Here is a link to our free beginner’s tutorial on covered call writing:
Once this strategy is mastered, we can move on to put-selling.
Hi Alan and BCI members,
First of all thanks a lot Alan, your YouTube videos and the materials on the site are amazing.
I have a basic question on the Basic Ellman Calculator and more specifically on the cost formula for the ITM covered calls.
According to the spreadsheet and your videos it is:
Cost = Stock Price – Intrinsic value
My broker calculates Maximum loss as:
Max Loss = Stock price – Option Premium
The net debit to open the covered call position matches the Max Loss + commissions.
Bought GME at $149.57 and sold ITM 1 strike $50 call contract expiring March 19 for $105.59. Paid net debit $4,398 excluding commissions. This is the max loss reported by the broker and I consider this to be my cost.
According to the calculator the cost is $5,000. I did not pay $5,000, so can you explain why there is a difference?
This makes a difference then in calculating ROO and Downside protection, because the cost is 5,000 vs $4,398.
The difference lies in the utilization of the time-value component of the premium. In one instance (BCI Calculator for initial structuring of trades), the time-value is used as initial profit but not also to reduce our cost-basis… just once.
The time-value is the total premium ($105.59) less the intrinsic-value ($99.57) or $6.02 per-share. The initial time-value return is 12.04% (well it’s GME… high volatility).
Now, if the trade was over and looking back in hindsight and GME closes above $50.00, then we can calculate our results using $43.98 as our cost-basis.
In our BCI methodology, there are 2 sets of calculations: One allows us to make a comparative analysis of the returns of different strikes and the other calculates final returns when both legs of the trade are closed and realized. The 2 should not be confused or intermingled.
One final thought: If we sold an OTM strike, the cost-basis would be neither $50.00 or $43.98, but rather $149.57.
Most other venues do not distinguish between the trade structuring and final calculations. In our BCI community, we do.
Good job taking the time to understand the mechanics behind these calculations.
Thank you for your detailed answer.
Now I understand the difference and it all makes sense.
I watched your video on Can we use ITM to create a No Risk trade? You provided very good examples and calculations and explained why this is not possible and there is no free lunch, we are taking a risk to win any return above the risk free return.
However, your example with PayPal did not use deep ITM call strikes (delta > 0.85), like my GME trade below. With moneyness of 67% and ROO of above 13% for the life of the GME option, it seems the probability is in my favor that the option will expire in the money or I will be able to close the positions once I collect more than 80% of the premium. If it gets close to the strike of $50 I can roll out and down and further lower my cost while still collecting time premium. Based on my research, I am okay with owning the GME shares with cost around $35 and I can keep writing covered calls bringing the cost even lower. Some greedy (or insane) people were paying 8 times that amount last week.
The research shows the implied volatility is in 80% of the cases higher than the realized volativity, or with other words investors tend to overpay for insurance. In your opinion, does this open some opportunities to make higher probability trades with higher risk/reward ratio?
I have used the ThinkOrSwim platform (with custom screens, coding and alerts) and I’ve made a high percentage of winning trades in a paper based account for months. In February alone, I have 16 wins and 2 small loses using this deep ITM strategy with volatile stocks.
I would really appreciate your opinion on the above strategy and if there is anything I am missing.
I am a long term investor and I have a large long-term balanced and diversified portfolio of broad ETFs (avg. 7%+ returns in the last 15 years). I am thinking of trying the above strategy with a small percentage of my portfolio to see if I can generate better returns (goal is 15-20% annually).
Thank you again for the great web site and resources.
The best way to measure the risk of a trade is to calculate the time-value return and even annualize it to get a better perspective. The higher the return, the greater the risk even with ITM strikes. Time-value is directly related to the implied volatility of the underlying security. We all watched GME go from $30..00 to $400.00 to $40.00 and now to $100.00. How much downside protection is adequate?
A reasonable way to measure the probability of a strike expiring ITM is to research Delta stats which is provided by broker platforms or free sites like http://www.cboe.com.
Finally, if we own a stock that we consider a long-term holding, a reasonable approach would be “portfolio overwriting” where we establish a time-value premium goal and write deep OTM calls to achieve the stated goal while decreasing the probability of exercise. Our return goal is generally lower than that of traditional covered call writing.
A deep ITM strategy with high-volatility stocks can work but it is not without risk. There are no free lunches.
I admire your due-diligence and thinking outside the box.
Alan, quick question, as probably many folks did, I executed a few BTC @20% (actually they happened automatically with my BTC orders) this week and several stocks are severely depressed (primarily NASDAQ tech stocks) so we are waiting to hit a double. some of them 6-10%, but since it was a general NASDAQ/Bond/Interest rate issue and not an individual stock issue, I have held on and just performed the 20% BTC and waiting this week to hit a double, or roll down, or sell the stocks all together although tomorrow looks like we might have a general recovery.
In your workbook, you cite an example of rolling down if the stock still has good technicals and you are nearing the end of the second week of the cycle which would be this Thursday/Friday. I think it was HAS.
In that example you sold another call at the next lower strike to garner another $185 per contract premium, which almost brought you back to whole on the entire trade but barely remained uncalled for the month.
My question is this… if you would have been called out you might still have had a small loss on the trade which I suppose would be fine since it is an “exit strategy”.?
However, what if you need to go two strikes down? And if you performed the rolling down with the ROO calculator at the original stock price it would have certainly shown a negative ROO due to buydown?
I suppose the idea here is “forget the ROO”, just get some more premium at a strike you don’t believe the stock will recover too, or are you trying to only go one strike down and if you get called out, take whatever additional premium you can and take a loss or gain at that point?
After we enter a covered call trade, we move to position management mode. Not all trades will be winning ones. Most will be. You did great establishing the 20% BTC limit orders and are now free to sell another option or the stock. Since the decline was a general market factor, this week represents an opportunity to “hit a double” (or several doubles) if there is a market recovery. If not, we go to Plan B… rolling-down towards the latter part of this week and into next week.
I, generally, look to roll-down to OTM strikes to allow for some share price recovery. Sometimes, rolling-down more than once in a contract month is required. These actions may not result in an overall winning trade but will definitely mitigate losing trades.
To sum up: I wouldn’t say we forget about ROO but rather look to maximize gains and minimize losses. In the long-run, the use of exit strategies will allow us to achieve the highest levels of success and become elite option-sellers.
My son is still going through the education package he purchased from you. Thanks for including what written documents you had. A question – what is the difference between the Elite covered call calc and the Elite+ calc other than the elite+ covers puts? Are all the features of the Elite covered call calc included in the Elite+ calc? We both looked at your video on the Elite+. Thanks for any clarification you can provide. I hope all is well up in Delray.
The 2 main advantages of the Elite-Plus Calculator over the Elite-Calculator are:
1. Includes selling cash-secured puts (as you mentioned)
2. Calculates total portfolio status:
Total # Contracts
Total ROO $
Total Upside $
Total Portfolio Potential Return
Total Invested $
Return w/o Upside %
Return with Upside %
I consider the Elite-Plus Calculator our best spreadsheet tool, to-date, especially for members who are utilizing both calls and puts.
Delray: 75 degrees and sunny… that’s why I’m here.
I’m enjoying my subscription. I wanted to know if you would enter a new covered call trade after the first week of a monthly options period. This would be new money — not from closing out a position opened in week 1.
Is there a time during a monthly option period that you would not open a new position with new money?
Yes. My preference is for Monthlys but Weeklys work as well. Even a Monthly with 1, 2 or 3 weeks remaining can generate significant returns. We would lower our initial time-value return goal range accordingly.
Since I am managing a large number of positions each month, my preference is to have most or all of my positions expiring on the same date. This is the approach that works best for me but not a required rule for all.
Thanks, I was thinking monthly too. While I have traded options and managed my portfolio for years, this is my first month employing the BCI strategy. Just trying to keep it simple for my initial trades using your process. With the big moves in the market we’ve seen last and this week, I believe that this is probably a relatively more difficult than normal market to trade covered calls. Nevertheless, my two trades are still in the black!
Greater volatility does create some challenges but also offers opportunities. As long as we have mastered the 3-required skills and have a structured plan in place that includes exit strategies, we do not fear volatility but rather embrace it.
Glad to learn of your recent success.
Initiated my first ever stock repair strategy yesterday.
PG trading at 125.04
Cost basis 131
BTO (1) 3/19 125C @ 2.38
STO (2) 3/19 128C @ 1.11
Net debit 0.16
Goal is to close everything if PG is at 128 or above on 3/19. If not then rinse and repeat.
Good luck. That seems like a good approach for stock repair. I have never had much luck with stock repair. Probably due to lack of patience. It was always easier to move on to other opportunities/problems. 🙂
PG is an ugly chart. Almost two standard deviations off it’s mean and is in a definite downtrend. At this level one would think that it is due to revert to the mean. But I have found that the market, or a stock, can remain irrational longer than I can remain solvent. 🙂
I always appreciate your observations. Keep up the good work.
Thanks for the feedback. Was a dividend play and the stock went south.
Alan that is a nice calculator. First time I have seen it.
Below is a screenshot of Terry’s stock repair trade as entered into the BCI Stock Repair Calculator:
Breakeven is lowered from $131.00 to $128.08
If PG closes above $128.00, the net loss is lowered to $0.16 per-share.
The main focus of this strategy is to lower the BE, without adding significant cash to the position as one would if additional shares were purchased to “average down” Frequently, the strategy is implemented with a net option credit.
CLICK ON IMAGE TO ENLARGE & USE THE BACK ARROW TO RETURN TO BLOG.
This week’s 4-page report of top-performing ETFs and analysis of the top-performing Select Sector SPDRs has been uploaded to your premium site. One and three-month analysis are included in the report. Weekly option and implied volatility stats are also incorporated.
The mid-week market tone is located on page 1 of the report.
For your convenience, here is the link to login to the premium site:
NOT A PREMIUM MEMBER? Check out this link:
Alan and the BCI team
I hope you can help me with these quick questions.
I have been looking over the website and going over youtube videos and am currently reading your book. I am not sure if I missed this information or just not found it yet.
Here is my first question:
In using the PMCC strategy. I am wondering when you suggest re-selling the long calls, if I have held onto them for a few months. Example, I buy a long call out 12 months and sell short calls against it for 6 months. Now, I only have 6 months time left on the long call. When do you suggest we do another buy of the long call and roll it out to 12 months? when we have like 9 months left ? 6 months left ? 3 months left ? This is assuming I am still bullish on the underlying and I want 12 months time on the long call.
I also have a second question:
I find myself reluctant to sell covered calls on underlyings when they have dropped a decent amount, the greed monster comes out and I want to sell them for a bit more premium when the stock increases again. What do you suggest in this case ? Sell the calls immediately after closing the previous one, just roll up or down a bit.
As always, Thank you for your response ! And keep up all the good work you and your team are doing.
Glad to help:
1. In the BCI methodology, we roll our PMCC LEAPS 3-months prior to contract expiration. This relates to the impact Theta has on the time-value of our long positions.
2. It is impossible to time the market. Once a contract expires, our shares are worth the lower of current market value or the last strike price sold. Back to Theta which erodes our time-value premium… it is in our best interest to write the calls early in the next contract (Monday or Tuesday after expiration) assuming we haven’t rolled the option prior to the last contract expiration.
I’m a new BCI member in the second week of my second monthly expiration cycle. I’ve read your encyclopedia and your book on exit strategies (twice), and immersed myself in the Ask Alan videos. I think the work you do is very important, and it’s amazing that you give retail investors so much confidence. I’ve read other books by other money experts who look down their nose at the retail crowd, and I find your common sense approach very refreshing.
For my question, about how often does a Mid Contract Unwind strategy trigger? Last month I unwound five of my original nine positions, and unwound three of the “follow on” positions. Early in the second week of the March expiration, of my nine starting positions, I’ve already unwound four and one of those four has already been unwound.
Is this unusual? To give a little more context, I tend towards conservative, in the money calls with 3%+ downside protection and 2% ROO. I start looking at an unwind if I’ve captured at least 60% of the time value in the first week, and 75% in the second week. It seems that it only takes a 4% upwards move in price for the MCU to start looking tempting since I’m already ITM to start.
Am I fiddling too much? I ended up with 4.8% gains for February expiration on a 2% plan.
You are off to a great start. Over the past 2+ decades I have been using these strategies, MCU is not uncommon but less frequent than the numbers you are reporting. A good deal of the difference relates to your starting with ITM strikes of most or all of your positions. Nothing wrong with that especially in bear and volatile market conditions.
The key to MCU is to calculate the time-value cost-to-close and determine if we can generate at least 1% more than that figure by contract expiration. Use the “Unwind Now” tabs of the Elite and Elite-Plus Calculators to generate these calculations.
Impressive start to your option-selling career.
Probably a dumb question, but in bear markets, how about selling naked calls vs naked puts.
I know it’s very risky, but statistically, what is your take?
For most retail investors, absolutely not. The reason selling naked calls requires a much higher level of trading approval from our brokers is that it is considered risky and inappropriate for most retail investors (like me).
Selling naked calls puts us at unlimited risk if share price rises which is possible in all market conditions even bear markets. The reward is limited to the call premium.
Many consider naked call option-selling the riskiest of all option strategies and a such, most of us should look to other more conservative strategies to protect our hard-earned money.
Just a reminder…
The Weekly Report (Weekly Stock Screen and Watch List) for this weekend will be uploaded late on Monday. 8-March-2021 instead of Saturday night, 5-March-2021.
Barry and The Blue Collar Investor Team