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Selling Deep OTM Weekly Cash-Secured Puts to Generate Substantial Annualized Returns

Selling Cash-Secured Puts is a strategy similar to, but not precisely the same as, covered call writing. It is generally used to generate cash-flow as a standalone strategy but also can be implemented to buy a stock at a discount or used in conjunction with covered call writing (PCP strategy). During the COVID-19 crisis in September 2020, interest rates were near zero as the 10-year Treasury yielded well below 1% and 1-year CDs were near 0.1%. This article will highlight a low-risk put-selling strategy that can be used to generate an 18% annualized return.

 

Selling cash-secured puts to generate cash flow

We select an elite-performing stock and sell out-of-the-money (OTM) puts. Our broker will require a certain amount of cash available to complete the trade should the put-buyer exercise the option and the shares are put to us. The amount of cash required is set by this formula:

[(put strike – put premium) x 100 x # contracts]

Put-sellers looking to generate cash flow generally do not want to be share owners but must be willing to accept the shares if the options are exercised and then can either keep the shares, write covered calls or sell the shares. The options can also be bought back (buy-to-close) to avoid exercise and assignment.

 

Strategy proposal: A real-life example with Apple Inc. (NASDAQ: AAPL)

Apple Computer has been a top-performer in 2020 and we will look to sell weekly deep OTM puts to generate an 18% annualized return. We will circumvent the 4 weeks of earnings reports. We will look for strikes with Deltas below -0.10 creating scenarios where there is less than a 10% probability of the options expiring in-the-money.

 

AAPL put option-chain on 9/14/2020

 

AAPL: Put Option-Chain on 9/14/2020

Note the following:

  • With AAPL trading at $112.01, the deep OTM $101.25 put generated a bid price of $0.38
  • The Delta of the $101.25 strike was -0.0999
  • Length of trade is 5-days

 

Calculations to meet strategy goals

Let’s assume we sell 5 contracts. The broker cash requirement formula is:

[($101.25 – $0.38) x 100 x 5] = $50,435.00

The time-value dollar return for the 5 contracts is:

$0.38 x 100 x 5 = $190.00

The 1-week percentile return is $190.00/$50,435.00 = 0.376%

This annualizes to a 48-week return of 18.08%

 

 Delta considerations

With the Delta less than 10%, exercise is possible but unlikely. We still must have a plan in place if share price declines below the put strike.

 

Position management considerations

If share price moves below $101.25 by expiration, we can take the following actions:

  • Buy back the put (could represent a gain or loss)
  • Roll the put to the following week
  • Allow assignment and retain the stock for the long-term
  • Allow assignment and sell the stock
  • Allow assignment and write a covered call

Note: AAPL closed at $106.84 on expiration Friday as the puts expired worthless, freeing up the cash to secure additional puts on Monday September 21st.

 

Discussion

Option-selling strategies can be crafted to meet a myriad of trading goals and personal risk tolerances. By selling weekly deep OTM cash-secured puts on elite-performing securities, we create low-risk opportunities to generate significant annualized returns. This can be particularly useful in low-interest rate environments. The role of Delta must be understood and reasonable exit strategy plans must also be in place.

 

For more information and tools for selling cash-secured puts

Best book

Best online DVD program

Best calculator

 

Investment club program board members

If you would like to schedule a private webinar with Alan and Barry, send an email to:

[email protected]

Include:

  • Contact email
  • Contact phone #
  • Club website URL
  • Put “private webinar” in the header

 

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,

I am a newbie. I just watched your January 27, 2016 video on the “Poor Man’s Covered Call” I think it represents some of the finest work I’ve ever seen in the options education field, and trust me, I’ve seen a ton.

Wes

 

Upcoming events

1.Free webinar for entire BCI community 

Thursday October 15th

8 PM ET

How to Set Up a Covered Call Writing Portfolio Using Stock Selection, Option Selection and Position Management

 

2. Wealth 365 Summit (free)

I was invited do host a 1-hour webinar the week of October 12th – 17th

Information will be posted soon.

 

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.

****************************************************************************************************************

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.

21 Responses to “Selling Deep OTM Weekly Cash-Secured Puts to Generate Substantial Annualized Returns”

  1. John W September 19, 2020 3:43 am #

    Alan,

    There is one point about the covered call that I’m not sure I understand. I understood that selling the option would give the buyer of the option the right, but not the obligation, to purchase my stock. And I am obligated to sell the stock at the strike price if it is called. I understood that the expiration date was when the option ended and after that date (4pm on Expiration Friday), if my stock had not been called, it was over. The stock remained mine and it was no longer under obligation.

    You seem to indicate that it would be sold the next day. I think I heard you say on a video that if it was one cent over the strike price, it would sell. Can you clarify that for me? I am spending a lot of time listening to your videos on covered calls. Easy to understand. Good job articulating yourself.

    Thanks for the reply and your time.

    John W

    • Alan Ellman September 19, 2020 6:30 am #

      John,

      As option-sellers, we have up until 4 PM ET on expiration Friday to take action on our short calls or puts. If the strike is ITM by a threshold amount (usually $0.01) and no action is taken, our calls will be exercised and shares sold the following day as the Options Clearing Corporation completes its accounting process.

      We will see the transactions in our online broker account statements on Saturday or Sunday. Exercise is not automatic as clearing members can make final decisions and create other thresholds. Most of the time, $0.01 is the threshold we should focus in on.

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

      https://www.thebluecollarinvestor.com/will-my-broker-automatically-exercise-options-that-expire-in-the-money/

      Alan

  2. Marsha September 19, 2020 10:44 am #

    Alan,

    What site did you use for the options chain? also, what are the other column titles? Looks like a lot of good information.

    Thanks for another informative article.

    Marsha

    • Alan Ellman September 20, 2020 7:08 am #

      Marsha,

      Go to:

      http://www.cboe.com

      Click “I agree”

      Quotes & Data

      Delayed Quotes

      Enter ticker

      Submit

      The column titles are shown in the screenshot below.

      CLICK ON IMAGE TO ENLARGE & USE THE BACK ARROW TO RETURN TO BLOG.

      Alan

  3. Barry B September 19, 2020 8:51 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 09/18/20.

    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 Performing 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]

  4. Amir September 20, 2020 6:43 am #

    Hi Alan,

    As we are getting closer to US election, do we need to take any action or any consideration prior to the election?
    I remember on previous election market had a big spike.

    Regards,
    Amir

    • Doug September 20, 2020 12:01 pm #

      Personally, I am making an effort to simply go flat and get out of everything I can by the end of October.

      I think that people are greatly underestimating the turmoil that we’re going to have through November and possibly the next couple of months. There is only one single outcome that MAY keep things relatively calm, in my opinion, and that is a landslide victory for Trump. Possibly good for keeping the markets calm, but terrible in other ways, in my opinion.

      When volatility is likely to spike like it has possibly never has before, that is the exact wrong time to be short options, particularly naked ones.

    • Alan Ellman September 21, 2020 5:44 am #

      Amir, Doug,

      I have posted on numerous occasions on this site and in our member reports that I moved to 100% cash prior to the 2016 election. Shortly after the election, i was fully invested.

      Because of COVID-19 and its devastating impact on our economy, I have moved to 50% cash over the past 6 months and will increase my cash position prior to the election. This is a reflection of my personal risk-tolerance and not necessarily a call-to-action. My expectation is that once the political landscape becomes clear and the market reaction is analyzed, I will enhance that cash position probably to 100% where it is 99% of the time.

      Whoever is leading our country in 2021 will be faced with extreme economic challenges. Much depends on an appropriately vetted (all 3 phase trials) vaccine along with its acceptance, production and distribution. Reliable scientific and medical resources are hopeful that this can be accomplished by late second quarter/ early third quarter 2021. That will be a game-changer.

      In the interim, the stock market remains the only game in town as far as making money. The Fed announced last week that it would be extending 0% interest rates through the end of 2023… where else can we generate cash flow? Okay, maybe in real-estate. Linda and I used to buy and sell commercial and residential properties in various US cities. Stock and option investing is much easier.

      The market is basically flat year-to-date and that is a concern given the cash infused in the global financial markets by the Fed and the historically low interest rates. On the other hand, COVID-19 will not be forever and, if managed properly, we can experience a huge upturn in the market in 2021.

      I appreciate the concern of our members like Amir and Doug. Like many of you, I remain short-term cautious and longer-term optimistic.

      Alan

      • Jay September 23, 2020 11:53 am #

        Alan,

        That was a very nice piece of writing. Thank you.

        We are not a political bunch. Our shared goal is to make a few bucks in mutual respect for each other.

        I don’t have the time of day for Trump. I hope Biden wins. But that is not likely and is just my opinion. The last incumbent to lose was Bush the Elder and that was only because Perot stole votes from him as a third party candidate.

        I started building cash at the highs last month. I have been in this crazy game long enough to know September seasonality is terrible. It’s a great time of year to over write your long term holdings. Particularly in election years when uncertainty runs high. It’s also a good time of year to sell some further OTM csp’s on the wash out days on things you would like to add. I have been doing a little of that also.

        We live in unprecedented times. Yet as you so wisely point out the stock market is the only game in town. Five or ten years from now today will be a memory.

        .And we will likely wish we had bought in during the 2020 collapse :)! – Jay

  5. Tony September 21, 2020 6:24 pm #

    Alan,

    I know how important it is to avoid earnings reports. In your opinion ( given the political climate) is it a good idea to structure our trades to avoid November 3rd.. I haven’t noticed if you addressed election years in your material but I’m relying on your years of experience for this as the only experience I have with election years was four years ago when there was a massive run up in the banks after election day. Any advice?

    Thanks,
    Tony

    • Alan Ellman September 22, 2020 5:55 am #

      Tony,

      You made an excellent analogy. I agree. Depending on our personal risk-tolerance, moving to a certain percentage of cash or taking extremely defensive positions for the week of the election would represent an appropriate mitigation of the election risk. We can also select securities with Weekly options and circumnavigate around election week. For me, moving to 80% – 100% cash is the plan at this time.

      Alan

  6. Dan September 23, 2020 10:11 am #

    Good Morning Alan,

    May I ask for your insight on how we might enjoy some stock appreciation when using poor man covered calls?

    If our sold call is ITM at expiry and we allow assignment, how would you handle that assignment?

    1. Exercise your LEAP to cover assignment?
    2. Buy Stock at market to cover assignment?
    3. Any other options to consider?

    What is the best option to secure any stock appreciation available?

    Thanks for your continued support.

    Dan

    • Alan Ellman September 24, 2020 5:55 am #

      Dan,

      If our short call is ITM at expiration, we have 2 choices:

      1. Allow assignment if the strike is deep ITM and it makes no sense to add additional capital to the trade. As long as we followed the formula for the initial structuring of the trade, we will be closing at a gain. The long LEAPS covers the short call.

      2. If we want to retain the long LEAPS position and continue this PMCC trade, we roll the option to the following month (week). Use the tab of the BCI PMCC Calculator shown in the screenshot below to compute results.

      CLICK ON IMAGE TO ENLARGE & USE THE BACK ARROW TO RETURN TO BLOG.

      Alan

      • Dan September 24, 2020 8:31 am #

        Many thanks Alan…

        Dan

  7. Alan Ellman September 23, 2020 1:08 pm #

    FREE WEBINAR:

    How to Set Up a Covered Call Writing Portfolio Using Stock Selection, Option Selection and Position Management

    Step-by-step analysis using the Elite-Plus Calculator

    Hosted by:

    Dr. Alan Ellman, President of The Blue Collar Investor Corp.
    Barry Bergman, BCI Managing Director

    The initial structuring of our covered call writing portfolios is critical to achieving the highest returns. Once established, we move to position management mode.

    This class will start with option basics, define covered call writing and detail the 3-required skills that will allow us to become elite covered call writers… stock selection, option selection and position management.

    Real-life examples will be analyzed describing how the stocks and options are selected as well as how to set up the overall portfolio based on cash available, strategy goals and personal risk-tolerance. Various spreadsheets will be used to simplify the process.

    An introduction to the initial step in position management will also be addressed. This class is for beginners to sophisticated option traders. There will be something for everyone.

    Time: Oct 15, 2020 08:00 PM Eastern Time (US and Canada) 

    Join Zoom Meeting

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  8. Alan Ellman September 23, 2020 5:31 pm #

    Premium members:

    This week’s 4-page report of top-performing ETFs and analysis of the top-3 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:

    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

  9. Jeffrey September 24, 2020 1:33 am #

    Hello Alan

    I have a different question, probably one that many people ask you. Approx six weeks ago I wrote some puts with more than seventy days to expiry, on the assumption that the markets would not go lower, and seventy days gives me a higher premium than twenty or thirty days.

    However the recent fears of a second wave of the pandemic has caused markets to fall again this week. and these options are seriously worrying me as there is still more than 30 days to wait for them to expire. They are of the American style so they could be exercised at any moment – if i were holding them I would exercise them on the view that the markets won’t get lower and I may lose the opportunity. So as the writer of the options I can either have patience and wait it out and hope time value works in my favor, or buy them back and sell puts at a lower strike price and maybe further out in time.

    Do you have a standard view on this? Or do you take a viewpoint on the movement of the markets and act accordingly? (Obviously I know my viewpoint generally turns out to be wrong!).

    And, am I being too greedy when I sold puts initially for seventy days rather than a shorter period?

    Fortunately the sale of some calls has not caused me any problems at this moment, but who knows what would happen if a vaccine were found!

    These are clearly perilous times whatever we do – although maybe it has always been like this and we never realized it.

    I hope you have the time to answer or to point me in the direction of a suitable article.

    All the best
    Jeffrey

    • Alan Ellman September 24, 2020 6:46 am #

      Jeffrey,

      For your consideration:

      1. Consider shorter-term positions for several reasons:

      – Annualized returns will be greater.
      – Opportunities to re-assess our bullish assumptions more
      frequently.
      – Easier to avoid earnings reports

      2. In our “Selling Cash-Secured Puts” book and online video program, we have detailed guidelines when to roll or close put positions. In the case when shares price is moving down closer to the put strike, we have the 3% guideline where we close the put position when the stock price is 3% below the put strike. These are guidelines.

      3. A properly-vetted vaccine will be a huge positive for the market. Reliable medical and scientific resources are hopeful that approval and mass distribution can be accomplished by late second quarter, early 3rd quarter 2021. This would be an incredibly amazing outcome for our society as well as the stock market. If any event results in our calls ending in-the-money, we have maximized our results… it’s all good.

      4. Early exercise is rare but we must have a plan in place in the event that the shares are “put” to us. We can sell the shares, keep them in a buy-and-hold portfolio or write covered calls on the newly-acquired shares.

      Alan

      • Jeffrey September 24, 2020 8:30 am #

        Hi Alan

        Thank you for your advice, I will definitely try out. the 3% guideline and remember that early exercise is rare..

        I agree with you about the vaccine and have bought a few long term calls (expiring middle and end 2021) as an investment/speculation of which companies, mainly industrial, will benefit.

        Best regards and thank you again

        Jeffrey

  10. Gary September 25, 2020 2:11 am #

    Alan and Barry,

    I am a new BCI Premium member and have set up trading accounts and watched several of your videos several times. I am reviewing the weekly stock and ETF lists and choosing stocks. My question is something I have not seen in the videos (i’m sure you reference it somewhere). From a technical perspective, how do we determine exactly when to purchase the stock, or is it that important if we use recommended stocks?

    Thanks,
    Gary

    • Alan Ellman September 25, 2020 6:21 am #

      Gary,

      The stock watch lists we provide to our premium members have been screened from fundamental, technical and common-sense perspectives on a weekly basis. We purchase the stocks when we are ready to implement our covered call writing trades which is early in the contract unless we are replacing a stock in our portfolio.

      For monthly contracts, it would be the Monday or Tuesday after expiration Friday. For Weeklys, it would be on Monday. Waiting longer will negatively impact the premiums we receive due to time-value erosion (Theta).

      Alan

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