Contract adjustments will change the parameters of our covered call writing and put-selling trades but will not result in any trade loss or gain. The Options Clearing Corporation (OCC) will make alterations to our option contracts such that buyers and sellers of calls and put are made whole after the corporate event. On August 6, 2021, Richard wrote to me expressing his concern over a covered call trade he executed with OneMain Holdings, Inc. (NYSE: OMF). On August 5th, OMF has an ex-dividend date for both the regular quarterly dividend of $0.70 per-share and a special 1-time cash dividend of $3.50 per-share. The $61.50 strike he sold initially was changed to $58.00 on the ex-date. To mitigate what was perceived as a losing situation, the trade was unwound “at a small loss” and a decision was made never to sell options prior to an ex-date moving forward. This article will evaluate the trade status after the ex-date as well as the action and trading decisions resulting from the contract adjustment.
What is a contract adjustment?
These are changes to option contract terms due to underlying corporate actions like stock splits, mergers and acquisitions and special cash dividends.
Initial trade structuring
- 7/19/2021: Buy OMF at $61.00
- 7/19/2021: STO the 8/20/2021 $61.50 call at $2.00
- 8/6/2021: Ex-dividend date for the $0.70 regular and $3.50 special 1-time cash dividends
- 8/6/2021: The $61.50 strike is adjusted to a $58.00 strike
- 8/6/2021: Both legs of the covered call trade were closed at a small loss
OCC publication of the contract adjustment
OMF Contract Adjustment on 8/5/2021
Current trade status as of the 8/5/2021 ex-date
There are no contract adjustments for the regular $0.70 dividend. These are expected and already baked into the option premiums. The 1-time special cash dividend is another story. Since the value of a stock will drop by the dividend amount, the corresponding option strike prices should also be decreased by the dividend amount, $3.50 in this case. Since that dividend will be captured by the covered call writer on the distribution date, having the strike reduced results in neither a trade loss or gain. The OCC makes sure that we are made whole.
On 8/6/2021, OMF closed at $58.35 leaving the $58.00 call slightly in-the-money, a favorable position for Richard.
Discussion
Option contract adjustments will result in neither a total position gain nor loss. The OCC will make sure buyers and sellers of calls and puts remain at the same pre and post ex-date statuses.
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:
Dear Alan,
Thank you for such incredible videos on YouTube! This stuff is truly amazing.
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Upcoming events
1.Wealth365 Summit: Free webinar
Covered Call Writing with Dow 30 and S&P 500 Stocks
Generating monthly cash-flow with blue-chip stocks
January 17th
4 PM ET – 5 PM ET
2.BCI-only free webinar: February 2022
Introducing a New Exit Strategy and Exit Strategy Term
Thursday February 17, 2022, at 8 PM ET
Registration link to follow
Exit strategy implementation is a critical aspect of successful covered call writing and put-selling strategies. Over the past 15 years, the BCI team has been creating rules and guidelines regarding our trade entries and adjustments while always seeking to enhance the opportunities to elevate our returns to the highest possible levels.
This webinar will introduce a new exit strategy and exit strategy term that can be applied to both covered call writing and selling cash-secured puts. We have also integrated this new exit strategy into our upcoming BCI Trade Management System which includes our new Trade Management Calculator. This new tool is the first of its kind anywhere and will be available to our BCI community during the 1st quarter, 2022. You have been asking for a trading log that allows us to both enter, adjust and calculate final returns and now you will have it.
This presentation will include scenarios when the exit strategy can be applied, how to apply it and show calculation results using both stocks and ETFs for both calls and puts.
Let’s learn from each other and use this information to become the best and most elite of all option traders.
3. Long Island Stock Investors Meetup Group
Stock Options: How to Use Implied Volatility to Determine Strike Selection
Creating 84% probability successful trades for covered call writing and selling cash-secured puts
Wednesday April 13, 2022
7:30 PM ET – 9:30 PM ET
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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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Alan,
When is the best time to select your strike price and option price since when the market opens its contently changes.
Tom
Tom,
I do my preliminary analysis on weekends or the night before trade entry. I recheck the stats prior to entering the trade when the market is open. More specifically, between 11 AM ET and 3 PM ET to avoid the early morning and late afternoon volatility of the institutional computerized trading.
Exit strategy execution can be managed whenever those opportunities present. We can partially automate that process using the 20%/10% guidelines.
Alan
Alan,
Thank you for your recent reply.
If you don’t mind, I have a couple more questions.
Were you not in cash during the Covid drop of 2020?
When would you go into inverse ETFs – is it when the market is below the 100 day moving average?
Is there a certain percentage below the current stock price that you select for deep ITM options? Do you go out further than one month?
Do you offer coaching?
Thank you.
Larry
Larry,
My responses:
1. I did move partially into cash at the end of the 1st quarter 2020 but not for long.
2. I will consider inverse ETFs (extremely rare) when we have a confirmed bear market (drop of > 20% from recent highs) or an unusual event like COVID when I did use inverse ETFs and the crash of 2008 when I didn’t but should have.
3. Strike selection for ITM strikes is based on our initial time-value return goal range, 2% – 4% for monthly returns for me. We select the ITM strike that will result in achieving our stated goal. This applies to ITM, ATM and OTM strikes.
4. I rarely go out further than1 month. I do have a few smaller portfolios where I use weekly strategies.
5. Here is a link for information on our 1-on-1 coaching program:
https://www.thebluecollarinvestor.com/investment-coach/
Alan
Dr. Ellman,
Can you please remind me of the 20%/10% rule?
George
George,
Here is a link to an article I published that explains the 20%/10% guidelines for both covered call writing and selling cash-secured puts:
https://www.thebluecollarinvestor.com/20-10-guidelines-for-covered-call-writing-and-put-selling-same-name-different-circumstances/
Alan
Hi Alan,
There’s a week left for BLDR. It’s dropped 6% +-. The 20% BTC did not trigger, I switched it to 10% – no trigger.
Earnings are projected for 2/25.
There is no negative news specific to this stock. Feb contract expires on 2/18.
Not sure how to handle this. I realize you can’t give specific advice, but if you could describe in generality potentially acceptable remedies I’d appreciate it.
– Ted
Ted,
The 20%/10% and 7% guidelines are purposely named “guidelines” and not “rules” to give is flexibility in adjusting our trades.
That said, when a stock drops 6%, we must decide if we want to retain those shares and roll-down on the option side or close both legs. When I do roll-down, it is usually to an OTM strike to allow for share price recovery.
BLDR was down >2% on Friday but still up over the past 5-day and 1-month timeframes, making this one a close call. The market is closed on Monday so a decision to take action should be made after 11 AM ET on Tuesday.
Alan
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 01/14/22.
Also, be sure to check out the latest BCI Training Videos and “Ask Alan” segments. You can view them on 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 Performing 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]
Dear Allan.
I am studying Exist strategies of your book CSP. Specifically, “Roll out” on expiration date. I have this question. Is it possible to Roll out to a lower strike (Down) or a higher strike (UP)? or The exist strategy only consist of “Roll out” (using same strike price of the original Put). If Roll out and Down/UP is possible, do you have any guidelines to make the determination? My first thoughts are:
a) Roll to a lower strike = advisable for Bearish market. It is defensive. The net credit of the premium is lower.
b) Roll to a higher strike = advisable for Bullish market. It is less conservative than “Roll out” and “Roll out to a lower strike”. The net credit of the premium is higher.
Thanks so much for all your help as always.
Alex,
Yes, rolling out can be combined with rolling-up and rolling-down, although rolling-down implies a declining stock where we may want to use a better-performing underlying.
In our new and upcoming BCI Trade Management Calculator, all exit strategies for both covered call writing and selling cash-secured puts are available to evaluate and the calculated results will show the pros & cons and all exit strategies before and after exit strategy intervention.
The screenshot below shows the exit strategies available for cash-secured puts which can be combined with each other when rolling options.
In general, I will consider rolling-out-and-up with an appreciating stock and usually move to a different security with a declining stock.
We expect the Trade Management Calculator to be available to our members in the 1st quarter 2022. I will be alluding to it in our BCI-only webinar on February 17, 2022.
CLICK ON IMAGE TO ENLARGE & USE THE BACK ARROW TO RETURN TO BLOG.
Alan
Dear Dr. Ellman,
I am used to the IBD buy point techniques and loss protection.
Do you have a BCI philosophy preferred stock entry points? What works for you?
Do you just enter and then do damage control if necessary?
Do you have a stock loss percentage threshold like IBD?
Regards,
Russ
Russ,
Our buy points are defined by our screening process. First, all our eligible stocks must have stellar sales and earnings growth. We then screen these elite fundamental performers and screen from a technical perspective, trend and momentum. We use exponential moving averages, MACD histogram, stochastic oscillator and volume. Finally, we check for common-sense parameters that don’t fit into the first categories, parameters like average minimum trading volume, diversification, avoiding earnings reports and others.
For loss protection, as it relates to covered call writing, we have our 20%/10% guidelines on the option side and the 7% guideline on the stock side (similar to IBD).
Here is a link to an article I published on this topic:
https://www.thebluecollarinvestor.com/20-10-guidelines-for-covered-call-writing-and-put-selling-same-name-different-circumstances/
We added the 7% guideline several years ago to our exit strategy arsenal and it is inherent in our more recent calculators.
Alan
hi Alan,
We sell to open when the spread is 0.30 or less. But I noticed on companies such as MSFT, the spread never seems to be that small. What do you do?
Tom
Tom,
The BCI guidelines for near-the-money monthly options are:
A minimum of 100 contracts of open interest and/or a bid-ask spread of $0.30 or less. You will find that most or all of MSFT strikes that fall into these categories will meet these guidelines.
Make sure you check the option-chains during market hours. Off hours will show wider spreads.
Alan
Alan,
How many Dow stocks do you put in your portfolio to write calls on?
Are these stocks long term holds, or do you buy them simply to write calls on?
And what happens when those stocks turn on you? Do you sell them and buy the Dow stocks that are working, or hold, continuing to write calls on them despite their sluggishness?
Thanks,
Marcus
Marcus,
I do have one of my (smaller) portfolios dedicated to the Dow 30 stocks I will have a minimum of 5 stocks taken from our Blue Chip Report to be properly diversified. Each month, in all my option portfolios, I will have 20 – 25 positions, selling 75 – 125 contracts. Each investor must find their comfort levels.
I use mainly monthly options and reevaluate my bullish assumptions on these securities each contract month so some will be removed, and others added based on our report. These are not long-term holdings. However, for members who have long-term buy-and-hold portfolios of low cost-basis securities and seek to enhance portfolio returns, we can tweak conventional covered call writing and use “portfolio overwriting”
Once a trade is entered, it is managed by the BCI rules and guidelines for position management. We must deal with poorly performing stocks and be proactive in the management aspect of our trading.
Alan
Premium members,
The new Blue Chip (Dow 30) Report for the February contracts is now available on the premium member site. Check the “resources/downloads” section (right side) and scroll down to “B”
Alan & the BCI team
Premium members:
This week’s 4-page report of top-performing ETFs and analysis of the top-performing Select Sector SPDRs has been uploaded to your premium site. One and three-month analysis are included in the report. Weekly performance has also been incorporated into the report although not part of the screening process. Weekly option availability and implied volatility stats are also incorporated.
The mid-week market tone is located on page 1 of the report.
New members check out our ongoing and never-ending training videos (“Ask Alan” and Blue Hour webinars). We add at least one new video each month. Only premium members have access to the entire library of these training tools.
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,
I know that following your calls and puts on a daily basis is important for management.
I have used the Daily Covered Call Check-up extensively, but do not see an equivalent for cash secured puts.
Is there any available?
Thanks,
John
John,
For the past year, Barry and I have been developing the BCI Trade Management System, which will include a Trade Management Calculator. It has been quite a challenge, but we were persistent, and it will be available by the end of the first quarter 2022. It can be used for covered calls and cash-secured puts and every exit strategy is included for individual and total portfolio initial and final results. It allows us to manage trades start to finish with final results that can be printed out and saved.
Check out our February 17th BCI-only free webinar for a sneak preview. A link will be available by the end of January.
For now, our best tool for calls and puts is the Elite-Plus Calculator.
Stay tuned.
Alan
Hello Alan,
I have a quick question regarding a recent covered call.
I bought 100 BBL on 1/11 for 63.08 and sold the 2/18 $65 for 1.46. I think this was slightly longer than a one month option and it has quickly accelerated.
The stock is up 7.8% to 67.99 and the call is down 200% and would cost 4.40 to buy it back.
I believe your book covers this with a mid contract unwind.
Given the amount of time left it seems like it might be worth the cost to buy it back to capture the price appreciation and restructure the trade at a higher OTM strike.
Any thoughts you have on this are most welcome.
Sincerely,
Patrick
Patrick,
You’re on the right track. When share price rises substantially, causing the time-value component of the short call to approach zero, we consider the mid-contract unwind (MCU) exit strategy.
Rather than roll-up and risk a share price decline resulting from profit-taking, we close both legs of the trade and use the cash from the sale of the stock to enter a new trade (a 2nd income stream) with a different security.
We implement the MCU exit strategy if we can generate at least 1% more than the time-value cost-to-close. We use the “Unwind Now” tab of the Elite or Elite-Plus Calculators.
In the screenshot below, this tab shows a time-value cost-to-close of $141.00 per-contract or 2.17%. Can we generate at least 3.17% by 2/18?
Or should we take no action at this time and continue to monitor the trade as we have maximized our return with downside protection to the $65.00 strike?
There are times when the best action is no action at all.
Alan
CLICK ON IMAGE TO ENLARGE & USE THE BACK ARROW TO RETURN TO BLOG.
Alan,
Thank you so much for your prompt response and educational explanation. I’ve always admired that about you.
The only area I’m foggy on is the “time value” component in the cost to close this position. Is there a way to calculate the $141 and/or 2.17% found in the calculator results by hand? I’m sure there is and I will dig in to your book after work today but if there is a quick and easy reference to point me to that’d be great.
Thank you again for your time. I hope you have a great day.
Warm regards,
Patrick
Patrick,
With the stock trading at $67.99, the $65.00 strike is $2.99 in-the-money. Of the $4.40 cost-to-close, $2.99 is intrinsic-value and that leaves $1.41 as time-value. At that time, the shares are worth our contract obligation to sell at $65.00. $1.41/$65.00 = 2.17%
The Elite and Elite-Plus calculators will do these calculations for us.
Alan