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What is the Single Best Delta to Use When Selecting My Covered Call Writing Strikes? Answer: None

This is one of the most frequently asked questions I receive from covered call writers all over the world. Should I use a 40-Delta? 35-Delta? Higher? Lower? The focus is on Delta when it shouldn’t be. This article will use a real-life example with Etsy, Inc. (Nasdaq: ETSY) to demonstrate why this is the wrong question to ask and how to target the best factors that will dictate our strike selections.

Factors that should determine strike selection (not Delta)

  • Initial time-value return goal range
  • Moneyness of the option (ITM for defensive positions; OTM for more aggressive positions)
  • Personal risk-tolerance
  • Overall market assessment

Based on these factors, we can craft our portfolios to align with our trading style, strategy goals and degree of risk we are willing to accept. These strikes will, in fact, have a Delta stat but that is the end point, not the starting point.

Real-life example with ETSY

  • 3/21/2023: ETSY trading at $108.11
  • 3/21/2023: April 2023 monthly contracts expire on 4/21/2023
  • Establish a projected price trading range for this 32-day period based on implied volatility (IV) of the at-the-money (near-the-money) strike

Strike selection scenarios with appropriate strikes for each situation

  • Traditional covered call writing- aggressive OTM ($115.00)
  • Traditional covered call writing- defensive ITM ($100.00)
  • Ultra-low risk protection to the downside based on projected trading range ($92.00)
  • Ultra-low risk protection on the upside to avoid exercise scenarios (portfolio overwriting- $125.00)
  • ATM strike to determine IV trading range calculations ($108.00 strike shows an IV of 53% as shown in the chart below)

Implied volatility projected trading range using the BCI Expected Price Movement Calculator

ETSY: Expected 32-Day Price Movement Based on an IV of 53%

There is an 84% probability that ETSY will not supersede the upper end of the range ($125.08) or fall below the lower end ($91.14).

ETSY option-chain on 3/21/2023

ETSY Option-Chain Showing IV, Delta, Strikes and Bid Prices

Note the following:

  • The ATM $108.00 strike shows an IV of 53% (yellow cell)
  • The only strike with a Delta between 35 and 40 is the $115.00 strike which would eliminate the other 3 scenarios, if restricted to 1 Delta
  • The bid prices (brown cells) will be used for initial calculations (time-value, breakeven price points, upside potential and downside protection)

Calculations using the BCI Trade Management Calculator (TMC) 

ETSY Calculations for 4 Proposed Scenarios

Pink cells: The $92.00 strike generates an initial 32-day time-value return of 2.33%, 26.53% annualized, with 14.90% downside protection of that time-value profit. The breakeven price point is $89.86.

Brown cells: The $100.00 strike generates an initial 32-day time-value return of 3.84%, 43.80% annualized, with 6.37% upside potential if share price appreciates up to the OTM call strike. The breakeven price point is $96.16.

Purple cells: The $115.00 strike generates an initial 32-day time-value return of 3.70%, 42.20% annualized, with 6.37% upside potential if share value appreciates up to or beyond the OTM call strike. The breakeven price point is $104.11.

Green cells: The $125.00 strike generates an initial 32-day time-value return of 1.37%, 15.61% annualized, with 15.62% upside potential if share value appreciates up to or beyond the OTM call strike. The breakeven price point is $106.63.

Discussion

The factors to choose when selecting strikes for our covered call writing positions include initial time-value return goal range, overall market assessment (aggressive or defensive) and personal risk-tolerance. Using Delta as the sole determining factor will restrict our choices and not allow us to craft our portfolios to the key components of our trading system.

*** One partial exception to this “assault” on the Delta edict is that we can focus in on Delta when using ultra-low risk strategies but then the strike must also align with our pre-stated initial time-value return goal range.

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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 first wrote to you about a year ago and started readying your materials.  Eventually, I joined the premium group, purchased the ESOC, and more books.

How has it been so far?

Fantastic!

In my first year of BCI, I was simply doing a lot of over writing, trying to make a little and trying to avoid assignment of my initial positions.  Essentially, I was able to avoid a reduction in the account balance in the midst of generally falling stock prices.  So, I thought I was doing pretty well.

This year, well, it’s much different.  I liquidated my initial positions (converted dead money) and started using the weekly stock screen and watch list.  NOW, I’m UP $11,000 in fully realized gains.  My objective has always been to train my wife as well, so that we could have a side source of income in retirement.

I know I have much more to learn, but at least I know enough to see how much and how far I’ve been able to go using your methods.

Many thanks to you and the BCI team.

John

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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.

4 Responses to “What is the Single Best Delta to Use When Selecting My Covered Call Writing Strikes? Answer: None”

  1. Barry B August 5, 2023 12:43 am #

    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 08/03/23.

    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:

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

    Reminder: Premium members are grandfathered into your current rate and will never see a rate increase as long as the membership remains active.

    Best,

    Barry and The Blue Collar Investor Team

  2. Stuart August 5, 2023 2:12 am #

    Alan,

    In several of your videos I’ve heard you say that your screening process for stocks starts with fundamental analysis. Many other experts stress technical analysis. Can you explain your thinking on this.

    Thanks,
    Stuart

    • Alan Ellman August 5, 2023 6:57 am #

      Stuart,

      In our BCI methodology, technical analysis is a critical aspect of our 3-pronged screening process with fundamental analysis and common-sense principles (minimum trading volume, avoiding earnings reports etc.) as the other two.

      The reason we initiate the screening with fundamental analysis is because institutional investors (mutual funds, hedge funds, banks and insurance companies) love securities that are fundamentally sound. These are the folks that move the market, not us, the retail investors. If institutional investors prefer fundamentally sound corporations, then so do I and, therefore, I believe that this should be our starting point.

      Now, once we have identified these elite-performers from a fundamental perspective, we must, absolutely, read a price chart to analyze trend, momentum and volume indicators.

      Creating watch lists for covered call writing and selling cash-secured puts as well as other strategies, is one of the benefits of our premium membership and a huge time-saver for our members.

      Alan

  3. Alan Ellman August 9, 2023 4:50 pm #

    Premium members:

    This week’s 4-page report of top-performing ETFs has been uploaded to your premium site. The Select Sector SPDR section is now crafted to align with our streamlined (CEO) approach to covered call writing. The report also lists Top-performing ETFs with Weekly options, mid-week market tone as well as the implied volatility of all eligible candidates.

    Premium member video link:

    https://youtu.be/EXMO-KwZuJs

    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:

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    Alan and the BCI team

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