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When writing covered calls in bear and volatile markets, we may choose to take a defensive posture and use in-the-money call strikes which offer additional downside protection in the form of intrinsic value. We can take this approach to an even higher level of protection by quantifying our risk and establishing a high probability of successful trades. In this article, a real-life example with NVDIA Corp. (Nasdaq: NVDA) will be used to analyze these scenarios.

What is Delta?

There are 3 definitions of Delta. The one that applies to this article is: The approximate probability of a strike expiring in-the-money (ITM) or with intrinsic value. In previous articles and webinars, I have discussed using implied volatility (IV) to establish trading ranges with approximate 84% probability of successful trades. We have also previously described using Deltas of 16 to avoid exercise of out-of-the-money call strikes (also approximately 84% of the time) This would be particularly useful when using the portfolio overwriting strategy.

How to use Delta for ITM strikes to create 84% probability of successful trades

Our goal, in these situations, is to prevent our shares from moving below the deep ITM call strike. Our defined goal is to create an 84% probability of successful trade that will still yield significant returns, while also having meaningful downside protection of the time value return. A reasonable expectation, using this strategy approach, is an initial time-value annualized return goal range between 10% and 20%. Therefore, the Delta of choice is 84. This will simulate the low end of the trading range calculated using IV.

NVDA ITM option chain on 6-11-2024

• A Delta of 84 (0.8379- red arrow) is associated with the $107.00 deep ITM strike
• The option chain shows a bid price of $16.70
• Let’s place this data in our Trade Management Calculator (TMC)

NVDA ITM calculations on 6-11-2024

• If taken through expiration, this is a 39-day trade (red oval)
• The breakeven (BE) price is $104.80 (yellow cell)
• The initial time-value return is 2.06%, 19.24% annualized, falling in the high end of our expected range (brown cells)
• The downside protection of the time-value return is 11.93% (purple cell). This is the amount the stock price can decline while still realizing the 2.06% return. It is different from breakeven

Discussion

When seeking ITM covered call strikes with approximately an 84% probability of success (not falling below the ITM strike), using Deltas of 84 is a reasonable approach which will also allow for significant time-value returns.

Alan Ellman’s Selling Cash-Secured Puts

The purpose of this book is to give the reader the tools to master a conservative stock and option strategy with the goals of generating monthly cash flow and focusing on capital preservation. Selling cash-secured puts is a low-risk strategy that leverages high-quality stocks and exchange-traded funds to accomplish these objectives.

This book will present basic option principles that apply to this system and will walk you through the process of stock and option selection. Additionally, calculating profits and position management will also be critical topics addressed. In other words, every aspect of this strategy will be discussed including the necessary steps to take before, during and after a trade is executed. Examples of real-life trade executions will be shown in conjunction with illustrative charts and graphs, and the rationale for each step behind the trade will be explained using easy-to-understand terminology.

I will also allude to another similar strategy, covered call writing, the topic of my first three books. The risk-reward profile of the two strategies are similar but certain nuances make them different, and I feel it is important to discuss those distinctions as I present the material needed to master this great strategy of selling cash-secured puts.

The goal of this book is to give you the education to apply basic investment principles in all situations. Your financial decisions will become non-emotional and based on sound fundamental, technical and common-sense principles. I will not tell you what to do but rather how to do it and why. I want you to benefit from all the mistakes.

I suffered through and then corrected as I taught myself these two outstanding strategies. I have been very fortunate in my investment and financial past and at this point want to share the knowledge that I have accumulated with as many average retail investors as possible. That is my goal, my mission for this book. After reading and re-reading this book, I hope you feel that I achieved this goal.

• • Easy to understand option strategy.
  • Over 70 color charts and graphs
  • For conservative investors with low risk tolerance.
  • Generate monthly cash flow while capital preservation remains a priority.
  • Compound profits instantaneously.
  • Learn to buy a stock “at a discount”
  • Use with covered call writing to create a multi-tiered cash-generating strategy.

Click here for more information.

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