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Rolling-Down On a Sharp Market Decline at the End of a Contract

Exit strategy opportunities may be created when there is a substantial 1-day market decline and we must be prepared to take advantage of these occasions. In June 2020, there was an 1800 point decline in the Dow 30 due to coronavirus concerns and national unrest related to police shootings. Many members of the BCI community had their buy-to-close (BTC) limit orders executed as a result of this precipitous decline. This article will highlight such a scenario with an exchange-traded fund.

 

Real-life example with Health Care Fund (NYSE: XLV)

  • 5/16/2020: Buy 200 shares of XLV at $101.70
  • 5/16/2020: Sell 2 x 6/19/2020 $103.00 calls at $2.07
  • 5/16/2020: 2 x BTC limit orders were placed at $0.40 (20% threshold) and then changed mid-contract to $0.20 (10% threshold) on June 8th
  • 6/11/2020: 2 BTC limit orders were executed at $0.20 due to market decline
  • 6/12/2020: 2 sell-to-open 6/19/2020 $98.00 calls were sold at $1.10 (rolling-down), creating a net rolling-down credit of $90.00 per contract [($1.10 – $0.20) x 100]
  • 6/12/2020: Enter a BTC limit order of the rolled-down options at $0.10

 

Comparison chart of XLV and the S&P 500 in June 2020

 

XLV-S&P 500 Comparison Chart in June 2020

 

Brokerage account screenshot of the 3 trades

 

Broker Statement Showing XLV Trades

 

Discussion

Mastering the skill of position management will assist in elevating our returns to the highest possible levels. By placing BTC limit orders after entering our covered call trades, we can automate this aspect of our trade management. If, and when, a BTC limit order is executed late in a contract, we can roll-down to generate additional time-value premium to assist in mitigating losses or turning losses into gains.

 

To learn more about the rolling-down and other exit strategies, see the exit strategy chapters in the following books/DVDs:

Complete Encyclopedia for Covered Call Writing- Classic Edition

Complete Encyclopedia for Covered call Writing- Volume 2

Covered Call Writing Online Streaming DVD Program with Downloadable Workbook

 

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 for all your help. I’m having fun trading options. It’s an excellent financial skill to have. I’m about to transition from paper-trading to actual covered calls.

Thank you again- great people, great products!

Fred

 

Upcoming events

1.Wealth365 Summit

Tuesday January 19, 2021

10 Am ET

Covered Call Writing Dividend Stocks to Create a 3-Income Strategy 

Hosted by:

Dr. Alan Ellman, President of The Blue Collar Investor Corp.

Barry Bergman, BCI Managing Director

Click here to register

 

2.Long Island Stock Investors Group

February 9, 2021 at 7:30 PM ET

Zoom webinar- details to follow

 

3. AAII Research Triangle NC

April 10,2021 at 10 AM ET

Zoom webinar- details to follow

 

Alan speaking at a Money Show event

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Market tone data is now located on page 1 of our premium member stock reports and page 1 of our mid-week ETF reports.

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About Alan Ellman

Alan Ellman loves options trading so much he has written four top selling books on the topic of selling covered calls, one about put-selling and a sixth book about long-term investing. Alan is a national speaker for The Money Show, The Stock Traders Expo and the American Association of Individual Investors. He also writes financial columns for both US and International publications along with his own award-winning blog.. He is a retired dentist, a personal fitness trainer, successful real estate investor, but he is known mostly for his practical and successful stock option strategies.

22 Responses to “Rolling-Down On a Sharp Market Decline at the End of a Contract”

  1. Barry January 9, 2021 1:10 am #

    Hello again Alan.

    As markets again have opened higher I literally have 5 or 6 positions where the underlying stock is literally 10-15% higher than strike with expiration 1/15/21. These all have earnings report following week. I understand the concept.

    But if the stocks are all in the money as significantly a week from tomorrow I will have to give up many thousands of dollars between what I get for the stock on assignment and what it is worth. Is it worth rolling out and up and risking earnings report in this situation?

    Thanks again.

    Barry

    • Alan Ellman January 9, 2021 6:00 am #

      Barry,

      The short answer is no, in my humble opinion. If we have unusual confidence in the stock, we can close the short call and write the new call after the ER passes. This is a tactic I rarely take.

      I have dozens of positions similar to the ones you describe in my current portfolios. Here is my analysis if share price remain above the strikes:

      I have maximized the returns on all these positions and shares will be sold for the price I agreed to sell them. By “allowing” assignment, I will remove the risk of disappointing earnings reports. Once the reports pass, I will consider using these securities again.

      One final point: If we annualize the returns from this January contract month, there will be reason to celebrate and no place for disappointment.

      I wish you a myriad of trades similar to these.

      Alan

    • Roni January 9, 2021 10:24 am #

      Barry,

      this is the best that can happen to you and you should be happy and hope that it will continue until the expiry.
      When a trade goes deep in the money we feel protected and our chances to achieve a successful outcome increase. The higher the better.
      We want to worry about the losers.

      Roni

    • Barry B January 9, 2021 4:11 pm #

      Hi Barry,

      First, congrats on your trades.

      There are a few things you might want to consider:
      [1] You set up a well thought out trading plan for the trades that you entered. Assuming that they close above your strike, your plan executed with 100% precision. However, there could be a political or geopolitical incident before expiration that changes the outcome. Trading discipline is one of the most important skills that long term successful traders can develop.
      [2] You executed on all three parts of your trading plan:
      – Defined your entry
      – Defined your target
      – Were ready to execute your contingency exit (BCI Exit
      Strategies) if the market moved against you
      [3] Doing this over and over will put you much further ahead than
      the occasional stock that runs beyond your strike. Successful
      execution of your trading plan, over and over, is your key to
      long term success.

      There are some things that you can do if you believe some of your trades will have upside growth:
      [1] If you select a stock that you think has upside that you want to participate in, you can always buy one or two upside calls to the trade.
      [2] Another thing that you might want to do is not to cover all of
      the stock. For example, if you buy 300 shares, you could sell
      just two contracts. and leave 100 shares open for growth.
      [3] You could buy 350 shares and sell three contracts…giving
      you 50 uncovered shares for growth.
      [4] Remember, if the trade does not have the growth that you forecasted, your covered call returns will be reduced by the cost of the calls you bought.
      The value of your uncovered shares will not be hedged by the value of your call premium.

      Now…my personal opinion and my actual trading practice is to follow the BCI methodology as Alan teaches. It has been proven time and again for close to 3 decades.

      Best,

      Barry

      • Roni January 10, 2021 10:11 am #

        BarryB and Barry,

        This is exactly what I mean.
        We are all conservative BCI members and not get-rich-fast gamblers.
        Therefore we should feel good when an underlying stock goes up, far beyond the strike, and forget about the “missed” opportunities.

        Most important is to take care of the trades where the underlying stock has dropped, and we are possibly facing a loss. The exit strategy for these “losers” is the most important skill we want to master.

        Cheers – Roni

  2. James January 9, 2021 2:41 am #

    Alan,

    Have a couple of questions for you. If you bought stock @ 48.00 and strike price is 50.00.

    #1- Could you BTC when stock reached 49.50, before expiration date. Would you still realize 1.50 appreciation per share and would any of your premium be compromised?

    #2- will your shares be assigned if they reach the strike price anytime before expiration?

    Thanks,
    James

    • Alan Ellman January 9, 2021 6:09 am #

      James,

      1. We can close our short call position at any time. We keep the $1.50 per-share but there will be a cost-to-close (buy back the option).

      2. The options we sell (or buy) are American Style options and can be exercised at any time up through 4 PM ET on expiration Friday. That said, early exercise is extremely rare. Here is a link to an article I published several years ago on this topic:

      https://www.thebluecollarinvestor.com/early-exercise-and-assignment-of-options/

      Alan

      • James January 9, 2021 10:20 am #

        Thanks so much for the info. I have been devoting a lot of time to your program. I dont consider it a burden, to me, its an investment.

        Wish I would have known more about options 20 yrs ago.

        Thanks again James

  3. Grant January 9, 2021 3:12 am #

    Hi Alan,

    Can I ask, is there something wrong with rolling up but within the same expiration to a higher strike that is still in the money just to pick up a few more dollars but still leaving it be exercised?

    I realize this could backfire if the stock drops. I heard you mention this once but you said something about the risk of taking profits and that you prefer rolling-out or out-and-up instead. I’ve tried to research this but have not been successful.

    Thank you for your time and I am recommending you to other people I know.

    Grant

    • Alan Ellman January 9, 2021 6:26 am #

      Grant,

      For traditional covered call writing, when share price accelerates, leaving the strike deep in-the-money, the best exit strategy to focus in on is the “mid-contract unwind” (MCU) exit strategy where the entire original trade is closed and a new one established with a different stock.

      We should keep in mind that if we roll-up in the same month, we are not actually capturing current value above the first strike because we pay for that in the form of intrinsic-value when we buy back the option. So, we are depending on continuing share appreciation which may or may not occur.

      In most cases as you describe, the 2 most likely approaches are the MCU or “take no action” and continue to monitor.

      Alan

  4. Jeff January 9, 2021 5:48 am #

    Hello Alan,

    My name is Jeff and I am new to BCI but have been tinkering in covered call writing for almost a year.

    I was attracted to your methods because I was using very basic strategies to generate income, but today I tried a new strategy that I believe you call rolling up and I wanted to get your insight on whether or not I did this correctly and/or if there was room for improvement.

    I purchased a lot of LOGI on 1/4/21 for $96.40/share I immediately sold the 1/15/21 ($100 Strike) call for $115

    On 1/8 the price of stock was at 103.90

    I purchased my 1/15/21 ($100 Strike) call for $460 I immediately sold the 1/15/21 ($105 Strike) call for $145

    I have yet to see how this move will turn out. Any advice is much appreciated!

    Thanks,
    Jeff

    • Alan Ellman January 10, 2021 7:49 am #

      Jeff,

      I generally avoid rolling-up in the same contract month with traditional covered call writing. We will usually see an initial benefit but we are dependent on that share appreciation to hold or we can easily end up in a less positive position.

      In this case, there was an initial 12-day time-value return on the option (ROO) of 1.2% with an additional upside potential of 3.7% for a total maximum 12-day return of 4.9%, 149% annualized. Protection of this 4.9% return was from current market value of $103.90 down to the $100.00 strike (3.8% downside protection). That’s where the trade was positioned on 1/8.

      By rolling-up an additional 0.8% was added (I did the math) but would be negatively impacted by any share decline. It also does allow for additional upside should share price continue to accelerate.

      With 1 week remaining to expiration, my preference would be to “settle” for the 4.9%, 12-day return and 3.8% protection of that position. Rolling-up represents a more aggressive, risky position that may or may not work out.

      Alan

      • Jeff January 10, 2021 10:34 pm #

        Alan,

        Thank you for this evaluation and suggestion. I can definitely see my mistake now. Perhaps I will be fortunate on this occasion and the stock will continue to appreciate but this was not statistically the best move.

        Stay well,
        Jeff

        • Alan Ellman January 11, 2021 7:52 am #

          Jeff,

          Whenever I evaluated a trade where I decided that I could have done better, I never considered it a “mistake” but rather a learning opportunity that would benefit me exponentially over the years and decades to come.

          Keep up the good work.

          Alan

  5. Barry B January 9, 2021 10:40 pm #

    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 01/08/21.

    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:

    http://www.youtube.com/user/BlueCollarInvestor

    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.

    Best,

    Barry and The Blue Collar Investor Team

    [email protected]

  6. Bob January 10, 2021 11:35 am #

    Top of the morning Alan!

    First, thanks for all you do. Reviewing the weekly list is now part of my Sunday routine. After reviewing the list a few weeks ago I bought MITK, and immediately sold calls. It started to the moon right away, so I BTC and rolled up and out. Without the education you provided I would not only not know how to do this, but I also would not have the confidence to act on it…. options are “risky.” LOL

    Question: I’m preparing my portfolio for the Feb expiration date. What do you think of selling ITM puts to buy shares at a discount then selling calls on them? The Weekly list isn’t published until Sunday after the Jan expiration so it comes out too late to expect to sell puts with the intention of haveing the option exercised prior to the Jan expiration.

    Thanks again! And wishing you and yours a safe and happy 2021!

    Bob

    • Alan Ellman January 11, 2021 8:00 am #

      Bob,

      In the BCI methodology, we refer to this as the PCP (put-call-put) strategy. My preference is to use OTM cash-secured puts to enter a covered call trade. If the put strike is not reached, we capture the option premium and repeat the next contract month… all good. If the put is exercised, we write a covered call based on our structured methodology.

      Here is a link to an article I published on this topic:

      https://www.thebluecollarinvestor.com/using-put-selling-to-enter-a-covered-call-trade-at-a-discount/

      For more detailed information, see pages 231 – 237 of my book, “Selling Cash-Secured Puts”

      Alan

  7. Fernando January 12, 2021 1:22 am #

    Hello Alan.

    A pleasure talking to you. I bought your book “Complete encyclopedia for Covered Call Writings”. And really, it is a method that I love and that totally fits with my way of seeing life. Thanks a lot.
    I would like to give you a strategy that I think about after reading your book.

    It is about choosing a stock in which you trust and which you would maintain over time, even without using the sale of options on it. Like for example Apple. Just like Warren Buffet is doing with Apple, he keeps it up for years.

    If I hold that stock for years, I no longer care whether it goes down or up in a month and would therefore eliminate the continuous search for a new stock from my strategy.
    In a complementary way, it would sell options every month. And this way I would have extra income, in addition to what the stock itself can provide me, as long as it is bullish.
    I would try to sell “Out of the money” options to benefit from bullish trends. If the options are assigned, I would buy the stock again.
    Without a doubt, I know that it is possible to sell a stock with a maturity of one year, however, I think the benefits are less than if I sell the stock monthly.

    Do you consider this strategy adequate? Or do you see it as risky, by linking portfolio growth to the long-term performance of the stock?

    Thank you very much Alan.
    And thank you very much for your weekly emails, with all the advice.

    Fernando (Spain)

  8. Sirus January 12, 2021 3:11 am #

    Hi Alan,

    My name is Sirus and I am a premium member ,( I have all your books and Videos)

    I have a question regarding the collar option trading. Example : I own 100 shares of coca cola shares that I bought for $ 50 and Simultaneously short an OTM $ 52 Call and Bought FATM put option $ 49 . my question is what happened to my put option after I called away for a profit for $52 ?

    Should I let the put option expire in 2 month ? or after called away should I immediately close my put option? or use it for a future another collar trade ?

    Another Question Is for Protective put , after I sold my stock for profit , should i close my put option or let it expire . Thanks and sorry for my bad English.

    Sirus

    • Alan Ellman January 12, 2021 7:20 am #

      Sirus,

      If a covered call trade is closed via exercise and we are moving on to another security, the protective put no longer serves a purpose.

      We sell the put to capture any remaining time-value premium. If we allow it to expire out-of-the-money, there will be no time-value premium recovered.

      Alan

  9. Alan Ellman January 12, 2021 5:04 pm #

    Premium members,

    The Blue Chip (Dow 30) Report for the February 2021 contracts has been uploaded to your member site. It is located on the right side of the site in the “resources/downloads” section.

    Alan

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