Portfolio overwriting is a covered call writing alternative strategy where out-of-the-money call options are sold against long-term buy-and-hold positions. Generally, these stocks are of a low cost-basis and generate dividend income. We want to avoid assignment to prevent the negative tax consequences of selling stocks that will result in significant capital gains.
Basis of strike price selection
Since share retention is a priority goal, we will select only out-of-the-money strikes with Deltas between 0 and .50, the closer to “0” the better. Next, we must determine what our annualized return goal is over-and-above typical share appreciation and dividend income. Let’s say our portfolio is appreciating 6% per year plus an additional 2% per year from dividend distributions. We may set a goal of an additional 6% per year for a total average annualized return goal of 14%. If we are using Monthly options, that would compute to 0.50% per-month. If we are using Weeklys, it would result in a 0.12% weekly initial time value return goal.
Weeklys versus Monthlys
My personal preference is Monthlys but both will work. However, Weeklys play an important role, when available, to circumnavigate around earnings reports and ex-dividend dates. In both cases, if a stock has Weeklys associated with them, we can sell options on these securities and just avoid the 8 weeks when earnings and ex-dividend dates occur.
Real-life example with Lockheed Martin Corporation (NYSE: LMT)
On 11/9/2018, LMT was trading at $308.56. An annualized covered call writing initial time value return goal of 6% was created. This established our weekly return goal at 0.12%. Since the ex-dividend date for LMT is on 11/30/2018, we will turn to Weeklys at least in the near-term. The option chain was analyzed showing out-of-the-money strikes at $322.50 and $325.00 came the closest to our target goal of 0.12% after entering the premiums into the BCI Portfolio Overwriting Calculator as shown in the screenshot below:
LMT: Portfolio Overwriting Initial Calculations
The brown cells highlight that the $322.50 strike returns a higher return (0.18%) than our target and the $325.00 strike returns a lower return (0.08%) than our goal of 0.12%. By selling an equal number of contracts of each, we will approximate (0.13%) our target initial return goal (0.12%).
Discussion
Weekly options can be particularly useful when selling options against shares in a long-term buy-and-hold portfolio. Only out-of-the-money strikes are used as our initial time value return goals are used to establish how far out-of-the-money we go. The BCI Portfolio Overwriting Calculator can be used to determine which strikes are best-suited for our portfolios based on these goals. Not addressed in this article is the importance of having mastered the position management skill which (as with all forms of option trading) is critical to successful results. All aspects of Portfolio Overwriting are detailed in BCI’s latest book, Covered Call Writing Alternative Strategies.
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:
Alan,
Thank you so much for all the work you have done to make sense of writing covered calls as an additional income stream.
Wishing you much success,
Tim J
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Alan,
Quick question. I’ve been learning about your bear market strategies and selling call options ATM or ITM during such conditions. However, I was wondering if there are any times during a market correction or bear market where you convert to cash and wait things out? Do you always have your money at work, but just with different strategies depending on the general market trend?
Thanks much,
David
David,
It’s quite rare that I am not fully invested. Even in bear market environments there are always stocks and industries that are performing well. It is our mission to find them! More challenging? Yes. Impossible to succeed? No.
In these environments, we can use several tools to protect ourselves like ITM call strikes, OTM puts to enter a covered call trade, protective puts and much more.
Some exceptions were I did move money out of the market include late 2008 when my portfolio was down 15%, pre-Brexit and pre-2016 election. But these scenarios are few are far between. However, if moving money out-of-the-market helps some investors to sleep better at night, this is the appropriate road to take for them.
Alan
Thanks David and Alan,
Call me a chicken but when we hit all time highs I sold a lot of things to build dry powder. What I have left I over wrote for June ATM. I am very bearish. I don’t dare buy a new position these days with the trade war going on unless it is immune like US consumer staples or utilities.
I can understand being fully invested if still working. We retirees tend to watch moving averages and try not to get caught with our pants down :)! – Jay
“…try not to get caught with our pants down :)! – Jay”
That would not be a pretty sight. LOL
Thanks Terry, no indeed – not a pretty picture at all :)! – Jay
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 05/17/19.
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
Since we are in Earnings Season, be sure to read Alan’s article, “Constructing Your Covered Call Portfolio During Earnings Season”. You can access it at:
https://www.thebluecollarinvestor.com/constructing-your-covered-call-portfolio-during-earnings-season/
Best,
Barry and The Blue Collar Investor Team
Terry,
RE; My post of 04/29/19 under Blog: “Combining Covered Call Writing and the Stock Repair Strategy”
I ended up adding CYBR to the other seven positions giving me a total investment of $3971.60 including fees and commissions.
Only MA closed with a profit. CYBR was profitable up until expiration. It actually opened ITM and then collapsed.
Since this occurred during such a turbulent time I don’t know if the strategy is valid or not. Most the stocks, but not all had betas above one. So they moved down more than the market which had some very rough down days. However their beta seemed to collapse on the up days and they never had any real recovery.
Earnings reports were as follows:
AKAM $1.10 beat by $0.08. Closed up but fell second day and for two weeks.
CYBR $0.55 beat by $0.15. Stock had fallen prior to earnings but was up for two days before falling Friday.
ESNT $1.30 beat by $0.04. Closed up but fell after that.
DISCK $0.53 beat by $0.07 Closed down and kept going down.
FTNT $0.46 beat by $0.07. Fell like a rock. Cut to Sell by most analysts.
FND $0.29 beat by $0.10. Fell like a rock found a floor 20% lower.
VICI $0.37 beat by $0.02 Flat for two days then headed south.
MA $1.78 beat by $0.12. Closed up $3.00 ahead of earnings and fell $6.00 day of announcement.
Long story short, All beat earnings but it seems that no longer guarantees any real bump. Lot of room for a lot of analysis but I don;t have the time or desire to do it. As I said it was a “wild hair”. Can’t say it was fun.:) I learned to stay with higher priced, more well established companies in longer uptrends.
I rolled up and out the MA calls.
Good luck,
Hoyt
Hoyt;
Thanks for the update.
Interesting that all beat their earnings estimates. You got caught in the overall market downdraft. Pulled all of the stocks lower. Results would be different in less volatile times.
I looked at some of the options, some appeared to lack liquidity driving spreads wider.
In any event, a good experiment. Nothing ventured…you know the rest.
Best;
Terry
Hoyt,
I join Terry in thanking you for the update. I have noticed the same thing regarding Beta lately. I had been heavy on Tech which had higher than 1 Beta so I expected to have my hat handed to me on the down days. Yet they did not outperform SPY on the up days either. Hmmmm :).
I have to shrug that off to the trade war, I suppose, as much of Tech is in the cross hair. In the CSCO earnings call the CEO trumpeted they had been on a strategy of decoupling from China exposure which is working for them. But the broader ETF’s with China exposure seem to be under performing their Beta from the limited data points on my holding page.
I hold a BABA Jan 20 call I bought a few months ago as a bet on a positive China outcome and that one has been tough sledding of late. – Jay
Hi Alan,
Thank you for all your great information on option. I wanted to know if you would make this trade.
I bought EWZ on Jan 17, 2019 for $43.09. I already made some good option premium from this stock but the stock has been staying around $38 – $39. I wanted sell this ETF and use the money for another ETF. I wanted to sell the call for June 21, 2019, Strike price $22.50 and bid of $19.60. Price of EWZ on 05/16/2019 is $38.24.
If I do the math correctly, I would only lose $98.00 (4,309 – 1,960 -2,250). Would you make this trade or is there better solution.
Thanks,
Ashvin
Ashvin,
Your math is spot on. Now, this is an interesting trade because the initial time value return is 17.2% for 1-month with 41.2% downside protection of that profit. Too good to be true? Nothing legal is!
What the option premium tells us is that the market is anticipating substantial volatility in EWZ and doesn’t specify direction. So our risk is to the downside even with that 41.2% “insurance policy” (see the screenshot below).
If you decide to execute the trade, monitor it carefully and get out of Dodge if you see that downside protection (intrinsic value) eroding rapidly.
CLICK ON IMAGE TO ENLARGE & USE THE BACK ARROW TO RETURN TO BLOG.
Alan
Hi Alan,
I just bought you encyclopedia book, wow, looks like that should keep me busy.
I want to join your service but I’m not exactly sure when I should, timing wise. Sooooo, maybe you could help me out with the timing of when would be a good time to enter.
Not having completed your book yet, I have a dividend question. On an exdividend date, do I want to be out of the CC. I haven’t ran across that in your book, I have looked. I hate to bother You with a question, but I rather ask you that get it wrong. Joining your service, will that give us the freedom of asking questions?
Thank You.
Carmine
Carmine,
The best time to join our premium member community is when you are ready to paper-trade as you prepare to initiate your option-selling career. I would finish the book first. A second read couldn’t hurt… up to you. Then you will have access to our reports and additional educational tools.
Avoiding ex-dividend dates is important only if share retention is critical. Otherwise, let the option buyer have our shares and we can use the newly found cash to enter a new position with a second income stream in the same month with the same cash.
Ex-dividend information is found in both versions of The Complete Encyclopedia:
I: Page 298
II: Pages 260 – 261 and 343 – 346
When you become a premium member, check our Portfolio Overwriting webinar which has lots of information on ex-dates and how and when to manage our positions around this date.
Questions: No need to become a member. Best place: Blog commentary. Me, Barry or one of our more experienced members will answer your inquiries.
Alan
Hi Alan,
Another wonderful article! Since April I’ve been writing more ITM calls than usual to get downside risk protection and finally it seems that this will help me cushion the next correction. Though, it still see people avoiding ITM calls courtesy of greed (they want upside, no ‘losses’ on the stock side) and the different (difficult?) math behind it. I have to say that my portfolio is performing very well because of using ITM calls and with the least amount of volatility. In combination with a traditional buy and hold portfolio, in which the premiums are re-invested from time to time, this translates into less risk, less volatility and elevated returns. Do you always have a good portion of ITM calls to counter a potential correction even if the chart technicals are looking great? It’s always nice to get downside protection without paying for it.
Best
Hamish
Hamish,
What an outstanding assessment of ITM strikes! You made my day.
I base the percentage of ITM strikes I use on my overall market assessment and chart technicals. We should always take advantage of OTM strikes when market conditions are normal to bullish. This will allow us to get that 2nd income stream you alluded to in your question.
I am currently holding half ITM and half OTM as a result of a positive earnings season and issues with China and Iran… we have a mixed bag. We can also “ladder” strikes with the same underlying. Let’s say we are mildly bearish on the market and plan to sell 5 contracts on stock XYZ. We can sell 3 ITM and 2 OTM to reflect the level of risk we anticipate.
Keep up the good work.
Alan
Alan,
I’m a very new to purchasing stocks and trading options. My goal is to become proficient at trading options as an income generating method. I’ve started watching the beginners corner videos.
My initial impression is that selling calls and puts are very similar. So I have s question. Why would you choose to sell a covered Call versus selling a cash covered Put?
Also, after I finish the beginners corner what is the next area I should review on the website?
Thank you for your help.
Charlotte
Charlotte,
Both are outstanding strategies that give us the opportunity to generate monthly cash flow in a low-risk manner. In normal to bull market environments, I prefer covered call writing because it allows us the opportunity to generate 2 income streams with the same investment when using out-of-the-money strikes… one from option premium and the other from share appreciation from current market value up to the strike price. Put-selling profits are restricted to the put premium (along with some exit strategy opportunities which also apply to calls).
The “PCP Strategy” uses both strategies together and offers perhaps the best of both worlds especially in bear and volatile markets.
Both are great ways to beat the market on a consistent basis.
Alan
BCI Community,
I copied an email conversation that I had with a Premium subscriber over this past weekend. Since I get this type of question more than any other, I thought that it will help all of our subscribers better understand the issues around identifying ER dates for our weekly Premium stock report.
The subscriber wrote:
“I’ve noticed that some close-in ER dates for next month are off by enough days to shift the stock into the yellow area.
This has happened several times in the past.
Further out dates are only off by a few days in most cases.
I’ve attached dates from my Fidelity account for the 5/17 BOLD stocks.
Example RHT listed as 6/24 vs 6/19 on Fidelity”
Our response on Sunday, 5/19/19:
At BCI, we use a number of websites to generate the ER Date information. Some of the sites that we use are:
– EarningsWhispers.com
– CBOE.com
– Yahoo.com
– Nasdaq.com
– Various brokerage websites
– Company website when other information can’t be found
Over the years we have found that EarningsWhispers has been the most consistent and accurate. One of the key features of that site is that it indicates whether the date has been confirmed. This is the source that I use to show a confirmed ER date (shown in red-bold).
Prior to this email, I checked a number of websites for their reported RHT ER Dates. The results are:
– EarningsWhispers.com – 6/24/19
– CBOE.com – No date shown
– Yahoo.com – Displayed a range from 6/19-19 to 6/24/19
– Nasdaq.com – 6/20/19*
* From the NASDAQ site…Red Hat, Inc. is estimated to report
earnings on 06/20/2019. The upcoming earnings date is
derived from an algorithm based on a company’s historical
reporting dates. Our vendor, Zacks Investment Research,
might revise this date in the future, once the company
announces the actual earnings date.
– Company website – No date is shown, no press releases
related to the upcoming ER announcement
– Schwab – “Earnings will tentatively be announced 6/20/19″
(Note: Not confirmed)
* From the Schwab website…”The date was gathered by Wall
Street Horizon, but it is still considered tentative.”
As you can see, exact ER dates are our most difficult metric
to accurately identify…although I make every possible effort to
find that date. ER dates are re-screened for every stock (both
in the white section and in the pink section) every week to get
the latest information! Even after a date is published on the
company’s website, in a number of cases, that date is
changed at the last minute due to company internal issues.
If you noticed the yellow box on the first page of the “Watch List”…
“Listed ER Dates are from multiple sources that we believe to be accurate. Our primary source, may on rare occasions, provide inaccurate data. Based on our historical usage, our primary source is well over 95% accurate and provides notification when the ER Date is confirmed. However, many sources derive their estimate of the ER date using algorithmic methods which are based on a company’s historical reporting patterns. Depending on the company, these may change from time to time. Please check the company’s website before placing any trades.
*** This is especially important during earnings season.***”
So, net/net, we make every effort to identify the actual ER date. From the report’s perspective, the only absolutely accurate date is when we indicate it in “red and bold”.
As Alan teaches, always check the ER date prior to entering a trade. There will be times when we enter a trade and the ER date is off. It has happened to Alan, myself, and others. When this does, in fact, happen you have to decide what steps to take. In my personal case, if I really “like” a stock, I’ll buy a protective put and turn the covered call trade into a collar trade.
BCI’ers, I hope that this gives you some insight into the issues ssurrounding ER dates.
Best,
Barry
Hi Charlotte,
Welcome to you and other new friends on our blog! I am an old buzzard around here. I thought I might offer an idea or two – only my opinion – never speaking for Alan. He get’s back to everyone!
If you like a stock and are gang busters on it buy it then let your hunch play out not covering it at first. Once it stabilizes and you have an under lying gain then start an over writing campaign out of the money.
If you like a stock but are on the fence because of market big picture sell an out of the money cash secured put and see if price comes back to you? If it does and you get assigned think about starting a cc campaign there or give it breathing room for the upside.
Another opinion is I don’t sell covered calls on everything. I have found if I can afford 200 shares of anything over writing half of it letting the other half run floats my boat. – Jay
Alan,
I thought I knew about covered call writing, but you have opened up a whole new world for me.
Thanks
Louis
PS Check out Public Service Enterprise Grp-PEG It covers all your bases plus has a 3.11% dividend on June 6. I am going to capture and write Thanks again, Louis
Louis,
Welcome to our BCI community and thank you for the kind words.
Regarding PEG, use the multiple tab of the Ellman Calculator to determine if the return on the option meets your initial time-value return goal.
As far as the dividend, the 3.11% represents an annualized return which is distributed in 4 quarterly payments.
Finally, we must be aware of the increased possibility of early exercise the day prior to the ex-date if share retention is part of our trading goals.
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 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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https://www.thebluecollarinvestor.com/membership.shtml
Alan and the BCI team
Barry,
Art Cashin is alive and well.
Saw him with Bob Pisani, another good guy, yesterday.
Art said, “We are all the victim of the next tweet.”
He also said, “We are just one tweet away from an all time high or a 10% correction.”
His take on the China trade talks were surgical.
Hoyt
Hoyt
Hoyt,
Do you know if he has a public blog, podcast, or other access to his thinking?
Thank you,
Barry
Damn Barry, you make me feel so dumb.:)
I hadn’t even thought about that. Did some research and discovered UBS has several podcasts.
The one you want is “UBS On-Air podcasts.” Once a week they will have “Art Cashin: On the markets”.
Art also has a Twitter account, @artcashin, but has not sent the first tweet. He signed up in 2010.
I have listened to a coupe of his podcasts overnight and they are vintage Cashin.
Thanks for giving me the idea. Another value of BCI.
Hoyt
Hoyt,
I am not sure what strategy works best against “The Mad Tweeter” but I have over written half of everything I have that has the requisite open options interest for June expiry and I am glad I did. It is helping dampen the irrational volatility! – Jay
Jay,
Boy it seems I have no idea what even works much less what “works best”. The best I can figure is that it’s all a matter of timing. Overwriting just before a downturn has worked well for me too. I havn’t pulled the trigger often enough in that regard. Overwriting after the downturn hasn’t worked because the premiums are so low that it’s easy to in a position where what I sold is now ITM and I either have BTC or be assigned and try to repurchase on a down day. It’s a lot to keep up with.
The temporary inverted rate curve still has me worried. There is no data for such a short inverted curve. But historically an inverted curve has accurately predicted a recession. Bond pricing , unlike stock pricing, has been far more accurate in predicting a recession. As they say stocks have predicted nine out of the last five recessions.:)
On another subject. Last night I had my usual drinking meeting with old high school classmates, most of whom are pro Trump. It was a repeat of previous Thursday’s. Their basic attitude seems to be “Trump 2020, just to upset the Liberals”. None of the damage to democracy, international relations or the resurgence of nationalism around the world seems to matter. I suggested they read the “Guns of August” but since it’s not discussed on Fox I guess that is a non starter.:
Good luck today. It’s a day by day thing.
Hoyt
Jay,
Another example of a schizophrenic market is that it appears the market will at least open up if not be up today. That’s on a Friday, a Friday before a three day weekend. Now does that make any sense at all. I can remember when traders would close out all their positions on a Friday if there was even a whiff of a possibility on negative news over the weekend. Now when negative news is likely by the hour how can we have up Fridays. This has been more frequent in the last year that I can remember.
Hoyt
Hoyt,
I know what you mean about Fridays particularly ahead of long weekends. After yesterdays wash out I held a few calls overnight sensing an up open and sold them after we got it. Now it appears to be fading but let’s see what Tweets and news we get today :)!
Have a nice Memorial Day. – Jay
You have a great Memorial Day weekend too.
Hope it is not as hot and humid in NO as it is here in ATL. But knowing NO it is probably worse.
Hoyt