Option selection is the second required skill when selling call and put options. On 9/26/2017, George shared with me a trade he executed with Biogen, Inc. (BIIB). An in-the-money strike was sold and share price immediately accelerated. George was inquiring about how deep in-the-money (ITM) the strike prices should be set.
George’s initial trade
- Buy 100 x BIIB at $313.80
- Sell (1-month) $307.50 call for $8.20
- 9/26/2017: Stock trading at $318.46
We use in-the-money strikes when concerned about potential price decline of the underlying security.
Calculating initial timer-value returns
BIIB: Initial Covered Call Writing Returns
Using the multiple tab of the Ellman Calculator, we see an initial time-value return of 0.6% with a downside protection (of that initial profit…not breakeven) of 2%. When evaluating if this was the best strike to select we must first define what the goals were prior to entering the trade. If the return goal and protection goals were met, then yes this was the appropriate strike. If not, a more relevant option should be considered.
One month later
With BIIB trading at $328.78 on 10/23/2017, let’s view the option chain for in-the-money strikes and assume a goal of 2% – 4% for initial time value returns (my personal preference):
BIIB: Options Chain on 10/23/2017
We will evaluate three in-the-money strikes ($315.00, $317.50 and $320.00) by entering the information into the multiple tab of the Ellman Calculator:
BIIB: Calculating In-The-Money Strikes
The initial time value returns of all 3 strike prices approximate our 2% – 4% 1-month goals. If we are looking to generate the most protection of the time value profit, we would favor the $315.00 strike (4.2%). If we preferred the greatest time value profit, then the $325.00 strike should be considered. The $320.00 strike is an excellent compromise.
Discussion
When deciding on which in-the-money strike to select, initial time value goals must first be established. From there, the amount of profit protection should be considered. Once those two components are defined, strike selection will become apparent.
***Thanks to George for sharing this trade with us.
Upcoming events
1– Long Island Stock Trader’s Investment Group
Tuesday May 8th, 2018 7 PM -9 PM
Using Stock Options to Enhance Portfolio Returns
2- Las Vegas Money Show
May 14th @ 12:30 – 1:30
Market tone
This week’s economic news of importance:
- Retail sales march 0.6% (0.4% expected)
- Housing starts March 1.319 million (1.255 million expected)
- Building permits March 1.354 million (1.321 last)
- Weekly jobless claims 4/14 232,000 (230,000 expected)
- Leading economic indicators March 0.3% (0.7% last)
THE WEEK AHEAD
Mon April 23rd
- Markit manufacturing PMI April
Markit services PMI April
Existing home sales March
Tue April 24th
- Case-Shiller home prices Feb
- Consumer confidence index April
- New home sales March
Wed April 25th
- None scheduled
Thu April 26th
- Weekly jobless claims through 4/21
- Durable goods orders March
Fri April 27th
- GDP Q1
- Consumer sentiment index April
For the week, the S&P 500 moved up by 0.52% for a year-to-date return of (-) 0.13%%
Summary
IBD: Market in confirmed uptrend
GMI: 6/6- Sell signal since market close of March 23, 2018
BCI: Selling 2 in-the-money strikes for every 1 out-of-the-money strike for all new positions. Earnings season should be a positive for the market.
WHAT THE BROAD MARKET INDICATORS (S&P 500 AND VIX) ARE TELLING US
The 6-month charts point to a bearish sentiment. In the past six months, the S&P 500 was up 2% while the VIX (16.79) moved up by 75%. The VIX has calmed a bit more from the prior week.
Wishing you much success,
Alan and the BCI team
Reposting below comment in this week’s new blog since I posted it late on Friday in last weeks blog.
*****
Some observations:
What a crazy market. That’s twice this year where I have been surprised with price gyrations within 2 days before Expiration Friday. There is no sure bet and it is a casino. But we can be ahead of the curve with this Covered call methodology and its management, I am finding out that after a successful performance for the last two years (16% and 24%), we can take a hit and then move on.
Roll downs:
It seems like the market knows when I do a roll down. I wait till the 2nd day of the 4th of 5th weeks in a cycle to make 3 roll downs that have been consistently consolidating at a level and then next day they start to move up. 3 of 4 ot them I was able to buy back on the market dips where the Buy to Close netted me a net gain. One security XES I did let it be assigned for this weekend so I invest the money elsewhere.
For future roll downs, I intend to wait for the Friday 7 days before expiration to make a decision, since I found out, if the Last Price is near the strike, there can be some value in making the roll down.
FIVE:
This is an interesting stock. I purchased on 12/11/18 and rolled it twice and finally let it be assigned on 3/16/18 in 3 accounts with an 8.74% gain. Earnings on 3/21 were positive and I re-purchased it on 4/5 at 72.22 with a strike of 75 OTM. The DOW swings had not effect on it. It peaked at 78.28 on 4/18, just 2 days before expiration. Would you believe it finished today with the market down 201.95 below the strike of 75 at 73.84 (Gain for cycle 3.42%). That’s fine with me as it saved me a lot of work to roll out to 80.
Will probably take a Wait and Sell stance when it peaks back up since an 80 strike for Monday currently (Expiration 5/18) is only paying 0.60 at 73.84 which is a local return 0.8% (.6/73.84) or 0.83% with my position Return cost basis of 72.12.
Mario
Mario,
The truth is : the mareket does not care about any of us. It is totally unpredictable, and we must acknowledge this.
I believe that the best time to roll down is as soon as possible, and if we are lucky, it will be when the market, or our specific stock is up.
Roni
Roni,
Rolling down is a trade off of several options (sic) when you have a losing position:
* Unwind if price decline and your percentage loss and news confirms it
* Not roll down early, wait for a “hit the double” price recovery after a buy back and following the 20/10% Rules
* Roll down early in Week before final week, Best if best if near a strike point on the upside. Monitor or set BTC for possible buy back at a large discount on further price drop, for a net gain or improvement in breakeven. If the roll down option sold remains OTM at expiration (not assigned), consider new OTM sell of option at same or higher strike to lower further your breakeven cost.
* Roll down late in Week before final week and premium justifies the roll down sale (best if near a strike point)
* OIC (Options Education Council) also suggests you can also do some stock repair strategies with options, some of which may require margin and extended expiration dates, not appropriate for some accounts.
**** I keep seeing the term – Don’t just hold and hope ****
Hey Mario,
I very much agree with your sentiments on the market. The daily moves in both direction, the chaotic news cycle, trade wars, real wars, tension everywhere, on and on, all make this a difficult, frustrating and even scary time to be in the market.
Yet in every past period of uncertainty those that hid money under mattresses lived to regret it!
You are more of a stock trader than me. I know that approach maximizes cash flow in a covered call strategy. But for reasons of finally understanding my comfort level, time frame and trading style I have settled on being a partial portfolio over writer in the past couple years.
I say partial because I keep a growth portfolio with themes I believe in with 10+ years time horizon. And a core portfolio with familiar tickers like SPY, QQQ, GLD and TLT I over write part of every expiry.
I think I have learned two things about CC and CSP options selling in our investing: first there is no one size that fits all. Second, there is a size we each find that does fit! – Jay
P.S., Roni, I checked the comment board before sending this and saw yours. When I was more active with stock trading I found your experience true as well!
Interesting none of my index over writes finished ITM Friday except TLT which i closed to keep open 4 contracts at 118. Waiting if we get a news bounce Monday on N’ Korea? If we do I will sell cc’s but if I was still in my stock buying years I would not buy anything new Monday until that news sells off in the next day or two after.
Wait….buy a daily dip….wait…then cover a daily pop. Just the market we have in my opinion :)! – Jay
Jay,
Thanks for good tip.
Roni
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 04/20/18.
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/
The report for next week (4/27/18) will be coming out late, most probably on Sunday night. We have an upcoming family medical procedure at the end of next week.
Best,
Barry and The BCI Team
[email protected]
hi how are you ? i hope i find you well please can you answer me which one is the best to use deep in the money covered calls or covered calls?
Rachid,
Deep in-the-money (ITM) strikes are best-suited for bearish and volatile markets and when chart technicals are mixed rather than all bullish. ITM strikes should also be considered when our personal risk-tolerance is such that we sleep better at night having that additional downside protection with ITM strikes. Here is a link to an article I published on this topic:
https://www.thebluecollarinvestor.com/selecting-the-best-strike-price-2/
Alan
Expiry weekend report.
My total account value is down 1 %.
It was much worse in the first week of this cycle, but I was able to mitigate the losses by rolling down, and applying other exit strategies, so I’m glad it is only 1%.
I had 9 positions :
4 were assigned (GRUB, ILMN, INTC, and PYPL)
1 call ended worthless (ATVI)
1 rolled out and down to 04/27/2018 (ANET)
1 rolled out and down to 05/04/2018 (NVDA)
2 rolled out and down to 05/18/2018 (ADBE, and LOW)
I am now 51% in cash, and will enter new covered call positions tomorrow.
I will not be reporting in the near future.
My total account value is up 14.6% since I started ,12 months ago.
It is by far the best of all my investments.
It proves the advantage of the BCI methodology which I aplied by the book.
Thank you BCI team.
Roni
Hey Roni,
Even though it may not feel this way congrats on another fine expiry beating SPY with your methods!
SPY closed March 16 Expiry at $274.2. It closed Friday’s April expiry at $266.61. When I subtract the two I get $7.59 drop when divided back into March is a 2.77% loss. You were only down 1% so you “out performed” SPY by well over 2x!
Further, SPY opened the year at $267.84 so if you have any gain at all YTD in your account (absent new funds) you are ahead YTD also.
Again, it may not feel that great but we have all read how most Mutual Fund Managers don’t beat SPY. Nice to know retail options sellers can. – Jay
I’m planning on taking my first shot at covered call writing on Monday….only one to start off since I’m a little gun shy at first. It’s a very bullish stock, and I know what strike price to pick, but it’s on an option that has 35 trading days, which is about 2 weeks longer than your strategy suggests. Is there anything wrong with that in your opinion? I’m a very patient person, and don’t mind waiting for things to play out completely. What say you?
Hi Joanna,
Welcome if new here! You will find many opinions from regulars like me. With any luck some of them will actually help :).
Is the stock you are bullish on a current holding? If so why over write it now for the first time? Is it up against resistance that has held before? Some other reason? Hopefully not trial and error….
If you do not own it please make room for 200 shares. I suggest buy the shares on the next now predictable wash out down day assuming nothing changes with your stock. Then wait for the next bounce back up day to sell your contract.
Compare it over the course of the expiry with just holding the other 100 shares. Please do as Alan says on exits and see which approach fits you best?
If like me you may end up doing both every month :). – Jay
Thanks again Jay, your support is always appreciated.
Roni
Joanna,
My preference is to use Monthly options. Many of our members prefer Weeklys. Money can be made with both. During the course of a calendar year, there will be 8 months of 4-week Monthly contracts (28 calendar days) and 4 months of 5-week Monthly contracts (35 calendar days). Both work well in the BCI methodology.
Once the 3-required skills (stock selection, option selection and position management) are mastered, we will have years and decades to benefit. Also, lots of valuable information and opinions shared by members on this site that will enhance the education process.
Alan
Joanna,
Much easier to manage if you stick to the monthly expiration dates. When you end up with more positions, it really helps. Some Expiration Friday, more than one stock needs a rollout. Then the Monday thereafter your goal is to add covered calls to any expired positions from the previous cycle or to unwind. Nice to have them all synchronized.
As long as I see over 2%-3% ROO I am usually satisfied with a selection, sticking to the standard cycle expirations. Even in week 2 and even week 3 you may find good values if the strike is just right with the current last price. Of course, Alan recommend you pick your stocks in the first week. But not always possible while you get fully invested..
With Fidelity, I also setup a Watchlist of all my positions and options (you can add options and purchase prices in a Fidelity watchlist). That way I monitor my account value for 4 accounts I have in one Watchlist. Can easily see the I can implement 20/10% rules (for gap downs) or do an Mid contract unwind for a gap up.
Some of us purchase the covered calls right away. Other may purchase the underlying and wait for a high point in the price to add the covered call, hoping for a price rise or share appreciation, which raises a call’s value as well. Meanwhile the option’s time value decays. Adds more management but is a strategy.
Mario
Found some interesting web sites this week.
Com sites:
StocksplitHistory
Dividendchannel
Org sites:
Finra – Lots of information. Has an interesting Tools and calculator section. Also a Mutual Fund Analyzer that has many options. They also have a BrokerCheck free tool to help investors lookup information on investment professionals and firms.
*****
Mario
Good morning Mario,
Dividend channel has a free newsletter if you want to further clutter your inbox :)? They talk a lot about preferred shares and closed end funds. But some of their suggestions are covered call eligible. I am surprised they never talk about that strategy to improve yield.
On Seeking Alpha, I have not been there in a while, there used to an odd bunch of birds who talked about dividends as if they made the world go around. One needs a large portfolio and/or modest life style to live off dividends.
I have nothing against Dividend Aristocrat stocks. Their share price will likely decline as interest rates rise but that is where over writing every month OTM can add up over time. – Jay
Jay,
Thanks for the comments. I like the way a lot of information is grouped on some of the pages, even though I am not trading for dividends.
The dividendchannel website has a page tab called ETF Channel,
I see that in stock split history web site, there is a link to an ETFChannel website.
I also found a StockOptionsChannel website.
Lots of info grouped. Want me to enable notifications, which I cancel normally.
Going back to FINRA org website as well as there is a lot helpful information there.
Thanks for your strategy, I am up $120k in the past year.
Paul
Can you attribute any big win from one or two positions?
OK, Paul, I will take the bait :)! On what starting balance is the $120K and what net portfolio % gain is that?
Regardless, sounds like great work and my congratulations! – Jay
Started with $289,750, now with $410,507 I am including options premiums, stock appreciation and dividends Goal is 30+% 41.7% annual return actual
Thank you Paul. That is fantastic! given the market has not returned any where near what you have gained can i assume you also did well on buying growth stocks or options on them without over writing? Thanks, – Jay
Super, congratulations….Mario
Paul,
Wow, that’s really fantastic.
Roni
Alan –
Like you, I have long-time respect for and belief in the analytical prowess of both Bill O’Neil and, more recently, Dr. Wish. According to the most recent BCI weekly report, their indicators are diverging. What do you do at times like this?
Thanks –
-JEFF
Jeff,
In our weekly reports, we do share the market analysis of IBD and Dr. Wish’s GMI (general market index). Ultimately, we must make our own assessments based on our personal risk tolerance. “Soft” bullish and “soft” bearish assessments can almost be the same.
As a guideline, when signals a mixed, I favor a more conservative or defensive posture.
Alan
Alan:
Thank you for your email and I am delighted now to have become a member of your community. The member material are fantastic. I have a question regarding the liquidity issues when we sell and buy. I perfectly understand the 30c/100 minimum for selling the options. However I wonder about that when we are to buy the options to close. Is it as critical a requirement in that case also? or it doesn’t matter and we pay the ask price regardless of the open interest numbers? for example if the open interest is 50; can I still pay the ask price and buy the option? I would really appreciate your insight on this in advance.
Best
Kaveh
Kaveh,
Once a trade is entered, the option is closed (bought back) based on our exit strategy guidelines and not on liquidity requirements. Many times we will buy-to-close the short call at a much higher price than we paid for it and that will not not necessarily result in a losing trade. See the mid-contract unwind exit strategy pages 264 – 271 of The Complete Encyclopedia-classic edition, for example.
Alan
Just noticed:
FSS (Federal Signal Corp.) has a verified 5/8/18 Earning date on Earnings Whisper. Yahoo also agrees. Fidelity 5/8/18.
Run list has it at 5/30/18.
Mario
Premium Members,
The Weekly Report for 04/20/18 has been revised and uploaded to the Premium Member site. Two stocks have updated and confirmed ER dates since the report was uploaded. The stocks are:
– FSS, 05/08/18
– LGND, 05/08/18
Look for the report dated 04/20/18-RevA.
Best,
Barry
I would usually say buy a sell off like today but I don’t see that yet. The QQQ 200 day is $154.54. Let’s see if that holds as support first. SPY is at it’s 200 day. Troubling days indeed. – Jay
Jay,
yesterday was really a sell off day, and I did buy 100 NFLX shares @ 302.98, but I did not have the guts to wait, and I sold the the ITM 300.00 call for 14.76 symultaneously..
I also bought 100 NTRS shares for 106.81 (bold in the run list), and will wait for a better day before I sell the call.
I am now fully invested for the 05/18 options cycle.
Roni
Hey Roni,
In my opinion there is no right or wrong way to do this stuff. Our experience must be our guide. I wish you all the best with NFLX and NTRS!
What I am convinced of is I will never time the market perfectly. So I find when I buy on down days and sell covered calls on up days in a market as volatile as this I do better than same time tickets. – Jay
Yes, a Wait and Act approach….I have several long positions awaiting for the right moment.
Mario
Thanks Mario,
I would sell a few of those calls today on the bounce. Recent Fridays have been sell offs as traders pack it in for the week!
Alan,
I just finished watching the 2 DVD program on exit strategy. I want to tell you how thoroughly I enjoyed it and how informative it was. You are an excellent speaker and I felt that with regard to this purchase I got more than my moneys worth. I am in the 3-4 month beginning educational period. before I start trading and I am totally immersing myself in learning the BCI methodology. Meanwhile my $50,000, which is the bankroll I will initially dedicate to my trading, is sitting in a 401K earning a terrific 1% interest, or thereabouts. On the other hand that is better than losing more than that amount while I am learning.
Thank you again,
Kirt
P.S .Looking forward to seeing you at the Money Show in Las Vegas on May 14.
Kirt,
Congratulations on managing the learning process perfectly. I look forward to meeting you in Vegas.
Alan
Good Morning, Alan.
Yesterday I got 100 shares of VNOM for $28.12 towards the end of trading session, around 3:45pm. Between 4 and 4:15 pm the price shot up to $29.49 before settling at $28.07- all in just 15 minutes. How does this happen? Can you please explain.
Thank you.
Also I want to let you know that I am using a free trading (incuding Options) App called Robinhood. Options were introduced last month and now they have a web Robinhood.com though not fully functional yet.
Regards
Vasanthi
Vasanthi,
The last trade you see at the moment of the close may not actually be the last trade. With many stocks trading heavily at the close, a few minutes are required to process orders and determine which among them was the last trade. Depending on the exchange or quote service, these trades may be posted anywhere from 30 seconds to 30 minutes after the closing bell.
As I travel the country for my speaking engagements, I have an opportunity to speak with teams from various brokerages and they all say that commissions are going down, perhaps to zero as is the case with Robinhood. Brokerages will then benefit by taking a piece of the action from the bid-ask spread differences.
Please keep us informed regarding your experiences with Robinhood.
Alan
Hi, Alan
I have recently started utilizing the covered call strategy and had one question –
When you sell a CALL against your stock and receive a credit ($N) and the underlying stock price moves up, your CALL is shown in your account position with a negative number that is higher than your initial credit. So if the price goes up, the CALL begins losing money right away even if price has not passed the CALL’s strike price? So if the price passes the strike it is now ITM. If it expires ITM I am assuming that there is a loss on the CALL. But a gain on the assigned shares sold
at the Strike price. So the result would be The Gain on the Shares + the Credit received – the Loss on the sold Call?
I asked the customer service rep at Fidelity, who has to pay for the intrinsic value gained on the sold CALL (the loss) because that is the BUYER’s profit? And she said that you just get the Gain on the Shares plus the Credit and that is it. They only show the growing loss on the CALL so you can calculate a buyback should you choose to do so.
That did not make sense to me, it would seem that someone has to pay the buyer’s profit on their CALL. Please straighten this newbie out on this.
Thanks.
Susan
Susan,
Great questions Good luck with your trading…
I have my own views on Intrinsic Value and Time value with options and how they work in a trade. Interesting you bring up the other side of the Trade with the buyer’s impact. That me me think a little deeper and ran some test cases. Learn a little bit every day. After two year working with options I have a good feeling how the mathematics works. It can be mind boggling at times. You can also think you understand it but later realize something was not right. Plan to answer back after Alan responds.
You are the first person in two years here that has mentioned they are with Fidelity. I am sure many members are.
Do you use Active Trader Pro? I use it with watchlists in a special way and will es explain if you reply positively. Maybe you have seen my comments in earlier blogs. On Fidelity I have a Retirement and Individual A accounts.
I also have Etrade which purchased Optionshouse recently I have two accounts there too.
Mario
.
Susan,
First our perspective (option-sellers): When we write a covered call, we are agreeing to sell shares we already own. If the strike moves ITM, we can “allow assignment” and sell our shares or buy back (close) the short call. If we allow assignment, we do not pay that intrinsic value component (or any time value for that matter). Our profit is option premium + share appreciation as our shares are sold at the strike price. The call sold is shown as a negative (parenthesis) indicating the debit to close the short call should we decide to do so. Once that option is closed, assigned or expires worthless, that debit connotation disappears. The Fidelity response was a good one.
From the option buyers perspective: When an option is purchased and the underlying moves up in value leaving that (original OTM) option now ITM, and sells that option, the “Option Clearing Corporation” will match buyers and sellers to complete the transaction. Near or after expiration, that buyer may very well be the market-maker who is required to provide a market for that particular option. In essence, we participated in the first leg of that option buyer’s trade but not in the second leg(sale of the option).
Keep in mind, that as covered call writers, we are close to 100% in control whether we sell our shares or buyback the option so the higher cost to buyback an option may never come into play. Frequently, rolling the option will generate even more profit into our accounts.
Alan
Premium members:
This week’s report of top-performing ETFs and analysis of ALL Select Sector Components has been uploaded to your premium site. There were only 9 ETFs that met our system criteria which were either flat or in positive territory over the past 3 months.
We expect this to turn around as long as earnings reports continue to be generally bullish.
Please note that the May edition of our Blue Chip (Dow 30) Report has also been added to your members site.
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
NOT A PREMIUM MEMBER? Check out this link:
https://www.thebluecollarinvestor.com/membership.shtml
Alan and the BCI team
Hi Alan,
Well, Alan, I’m trying hard to master your strategy, I bought all your books and I’m a premium member.
As you as well I have real state and I own a b&h portfolio. But I feel really happy with your strategy is really easy to learn (no to master ;)), give me lots of time (is easy when you are a premium member) and is no too risky (well I feel really comfortable with really high risk).
From my point of view, more people should know about you. I’m from Spain and I think that your content in Spanish could be brilliant.
I think that could be nice include European companies, there are nice companies here in Europe with really good performance. You could get more users that follow your strategy.
I know that most of the people when you mention STOCK + OPTIONS… they feel overwhelmed. But I truly believe more persons should know more about this.
Thanks so much for all your efforts and content.
Have a good day.
Ivan
Ivan,
The BCI community is so fortunate to have such a large presence of international members like you. Our website is available in dozens of languages including Spanish. Just click on the “select language” dropdown on the top right of our web pages.
An issue I have is that I receive emails in languages I don’t speak…making the content available in other languages is about as far as I can go!
I have been thinking about publishing one of my books in Spanish…perhaps the “Stock Investing for Students” book as that is related to general investing as opposed to options only. That’s a possibility.
Thanks for your feedback and welcome to our BCI community.
Alan
I know I’m asking a lot of questions, and your time is valuable. Last one for a while, I promise. You see…..I bought your other book, and it’s generating more thoughts for me. You said that high volatility (bearishness) means to pick an ITM strike, but low in volatility (bullishness) an OTM strike is preferred. It’s pretty clear we are in a high volatility world right now, so what if I want to write covered calls on bullish stocks that seem unfazed by all the ups and downs of the overall markets? Seems that this is creating a “hybrid” situation, so which strike price is optimal?
Joanna
Joanna,
I’m happy to respond.
In a high-volatility or bearish market environment, there is greater risk to the downside. This is why I favor ITM strikes. A majority of the time, I “ladder” strikes, that is, use a combination of ITM and OTM strikes… a hybrid as you describe it (like the term!).
Stocks with bullish technical indicators are the ones I would consider OTM strikes when laddering strikes in volatile or bearish market environments.
Good observation.
Alan