Options based portfolio adjustment

[Luck_Club]

Hi all,
As many know I prefer dividend producing individual stocks, and avoid "buy the market" solutions. Long story short I'm dipping my toe into options only covered calls and cash covered puts.

As I enter this next phase of my investing life, I find that my current hodge podge of stocks don't all lend themselves to my option strategies. As a result I can only write options on about half the portfolio. I can find good buy and write opportunities. However, my current portfolio is either way in the money, or way out of the money. Should I switch to stocks that are better suited to options writing, or keep a blend of some that are good for writing and some that aren't?

If you have ever re balanced your portfolio in favor of all stocks more favorable to an option writing please share your experience and knowledge.

[Scusan]

I'm not sure I completely understand your options strategy/issues.

I have some div stocks that have worked well for options strategy (WMT) and try to hold those in tax-advantaged accounts (IRA/401 for me) since the option/STCG income I might get in my regular account would be taxed at my (currently high) marginal tax rate. Other div stocks that are not good options candidate, I try to keep in my regular brokerage account where the divs are taxed at a lower rate. These are ones that don't have good options available or the spread is really high. I wouldn't sell a stock (that I am already happy with) just to re-buy another to write/sell options with though. OTOH, I tend to carry a lot more cash than most so I can buy something without having to sell something else.

I'd be interested in hearing more on how you're finding your buy/write candidates (perhaps with some examples?) Also, I didn't quite understand what you were saying here:

>> However, my current portfolio is either way in the money, or way out of the money. <<


I'm used to referencing ITM and OTM based on a specific option contract and it's relation to the current price of the underlying security...Are you talking about stocks currently in your portfolio that you have an unrealized cap gain (or loss) on?

Looking forward to an interesting thread. Hope others will jump in.

[fh2000]

My 300K mistake by selling covered calls on Apple. Covered call is a strategy for small gain but potentially givening up larger gains.

I owned 200 Apple shares around 2009ish. I sold covered calls on those 2 hundred shares, and kept rolling up, until the stock price went so high up that there are no more options to roll up for a positive gain. I should have bought the calls back with a hefty loss (though I could keep the shares), but I did not, and let the shares getting called away.

I made 100% on that deal, but if never went into covered calls and kept the shares, those 200 shares would have become 1400 shares after split with 1000% gain, and valued at close to $300K today.

I never sold covered calls again.

[Luck_Club]

Quote:

Originally Posted by Scusan I'm not sure I completely understand your options strategy/issues. I'd be interested in hearing more on how you're finding your buy/write candidates (perhaps with some examples?) Also, I didn't quite understand what you were saying here: >> However, my current portfolio is either way in the money, or way out of the money. << I'm used to referencing ITM and OTM based on a specific option contract and it's relation to the current price of the underlying security...Are you talking about stocks currently in your portfolio that you have an unrealized cap gain (or loss) on?

What I mean is some of my current holdings are not at the correct price point to make money. ie Ford. In my retirement account the cost basis is $9.72 and the next strike is 10 which has no marketable premium in the next 30 days. But @8.96 21 days out had a 9.50 strike providing 0.5% OTM & 6.58% ITM using a buy and write strategy.

To find candidates for my buy writes I took my current holdings and plugged them into a spread sheet. To that I also added some dividend aristocrats, which I currently don't own. Before the market opens I plug in the closing price, and 3 call premiums for a given strike at 7, 14 and 21 days out. Some have good buy write premiums, but due to my current cost basis just writing covered calls would have me realize a loss.

Ticker	Yahoo	price	strike	7P	14P	21P	B/C	Exp OOM	14B/C	Exp OOM	21B/C	EXP OOM
RDS-A	U	$55.56	$56.50	$0.10	$0.35	$0.45	1.872%	0.180%	2.322%	0.630%	2.502%	0.810%
CVS	O	$60.28	$60.50	$0.66	$1.00	$1.23	1.460%	1.095%	2.024%	1.659%	2.405%	2.040%
MPLX	U	$27.10	$28.00	$-	$-	$0.40	3.321%	0.000%	3.321%	0.000%	4.797%	1.476%
ED	O	$87.20	$87.50	$0.60	$0.90	$1.10	1.032%	0.688%	1.376%	1.032%	1.606%	1.261%
D	O	$76.86	$77.50	$-	$-	$1.00	0.833%	0.000%	0.833%	0.000%	2.134%	1.301%
F	F	$8.96	$9.50	$0.01	$0.03	$0.05	6.138%	0.112%	6.362%	0.335%	6.585%	0.558%
CVX	F	$115.81	$117.00	$0.84	$1.42	$1.79	1.753%	0.725%	2.254%	1.226%	2.573%	1.546%
ET	U	$13.47	$13.50	$0.17	$0.25	$0.33	1.485%	1.262%	2.079%	1.856%	2.673%	2.450%
MPW	O	$18.15	$19.00	$-	$-	$0.05	4.683%	0.000%	4.683%	0.000%	4.959%	0.275%
XOM	F	$68.30	$69.00	$0.45	$0.82	$1.06	1.684%	0.659%	2.225%	1.201%	2.577%	1.552%
WPP	O	$58.02	$60.00	$-	$-	$0.50	3.413%	0.000%	3.413%	0.000%	4.274%	0.862%
BTI	U	$36.73	$40.00			$0.30	8.903%	0.000%	8.903%	0.000%	9.720%	0.817%
T	F	$34.97	$35.50	$0.12	$0.24	$0.33	1.859%	0.343%	2.202%	0.686%	2.459%	0.944%
NLY	O	$8.87	$9.00	$0.05	$0.08	$0.11	2.029%	0.564%	2.368%	0.902%	2.706%	1.240%
BP	U	$36.29	$37.00	$0.13	$0.28	$0.39	2.315%	0.358%	2.728%	0.772%	3.031%	1.075%
AINV	U	$16.05	$16.00			$0.25	-0.312%	0.000%	-0.312%	0.000%	1.246%	1.558%
EPD	F	$28.42	$29.00	$0.05	$0.15	$0.25	2.217%	0.176%	2.569%	0.528%	2.920%	0.880%
NGG	O	$52.26	$55.00			$0.20	5.243%	0.000%	5.243%	0.000%	5.626%	0.383%
WBA	U	50.48	51	0.31	0.57	0.74	1.644%	0.614%	2.159%	1.129%	2.496%	1.466%
AFL	F	52.65	53	0.3	0.49	0.39	1.235%	0.570%	1.595%	0.931%	1.406%	0.741%
ADM	F	38.11	38	0.29	0.75	0.63	0.47%	0.76%	1.679%	1.968%	1.364%	1.653%

RDS was bought on August 5 and I've written a few times since then with the following results:

RDS	0.8	0.94		0.45						2.19
ADM			0.4	0.35						0.75
T	0.15	0.23		0.17						0.55

Where $2.19 a share is my total premium plus dividend captured in the past 30 days. The last write had me go out to Sept 20 on the contract to get the premium. So in roughly 60 days I will earn 3.3% total return if called away.

ADM will be 1.6% over 14 days if called away this Friday @88.

To be balanced. T was a long term holding in my IRA, which got called away, and I currently have a cash covered put in place to buy back at 0.50 below the call point. However the current price is 0.75 above the call price

I own more and was probably too concentrated in T anyways, so I'm not overly concerned, with the gain not realized.

So I guess I'm asking has anyone ever restructured their holding to incorporate an options oriented strategy concentrate holdings, select certain stocks, etc.

[OldShooter]

I'd like to make a small suggestion: Carefully measure the results of this strategy against an alternative.

The way I do this is that I have a "benchmark" portfolio that began with $100K on Jan. 1 of 2005. On that date I bought a total US market fund and a total international market fund in a 65/35 ratio. Interest and dividends reinvested, no rebalancing. I selected funds that I do not hold elsewhere in the portfolio and I have not touched them since.

Every quarter I calculate the benchmark gain/loss for the quarter using the total dollar value change in the two funds. I also maintain a cumulative gain/loss number. Real numbers, real money, no armwaving, no backtesting.

With that benchmark I can make quarterly comparisons with other total return numbers like other portfolios and various indices. My main emphasis is to benchmark a couple of nonprofits' portfolios that are run by hired investment managers.

A lot of times I see posts from people who have some scheme that has made them money and they are very happy and boasting about it. They seem to never know, however, whether a simpler alternative would have made them the same or more money. Hence my suggestion to you.

[Luck_Club]

Quote:

Originally Posted by OldShooter I'd like to make a small suggestion: Carefully measure the results of this strategy against an alternative. A lot of times I see posts from people who have some scheme that has made them money and they are very happy and boasting about it. They seem to never know, however, whether a simpler alternative would have made them the same or more money. Hence my suggestion to you.

I agree it is hard to measure tactical performance strategy vs buy and hold index investing. I've said to you and others just don't understand the index thing, and though it is promising for the last 10 years with over a 100% return the last 18 months have mustered only 2%.

I'm kind of drawn to the options because I see a minimum return at the onset. I buy and write and the call expires out of the money is X; in the money is X+. If it goes sideways and I can't write again, there is still a return of the dividend until it becomes more favorable to write options at a later point.

The market in general is gambling at best IMHO. OTOH, all these hedge funds , mutual funds, and exchange traded funds must have found some way to get semi repeatable results or they would all be out of business, and nobody would pay there fees no matter how low they are.

Don't want to fight, just looking for like minded opinions and advice if there is any.

[ESRwannabe]

Luck_Club,

I don't do any options trading myself (yet). However, I do own some etfs/cefs that trade options like etf QYLD.

If I was going to start trading options I think I would stick to just cash covered puts. That seems like a no-loose proposition. You get paid to wait for the stock to hit a price point you want to buy it at. I'd probably stay away from covered calls.

[ERD50]

Quote:

Originally Posted by Luck_Club I agree it is hard to measure tactical performance strategy vs buy and hold index investing. ... .

No it's not. It isn't hard at all. Just look at the total return of a Total Market fund, compare to your total return, and there you go.

Quote:

Originally Posted by Luck_Club ..., and though it is promising for the last 10 years with over a 100% return the last 18 months have mustered only 2%. ....

Irrelevant. The market returns what the market returns. What is relevant is will any alternative reliably beat the market.

Quote:

Originally Posted by Luck_Club ... The market in general is gambling at best IMHO. ...

Again, not true at all. It is far better than gambling. The market, in general is adding value, and you get to share in that. It's not a zero-sum game with a dealer taking a % off the top.

A bunch of rocks under the ground are of no value to me. But if a company can pull those rocks out, and process them to make aluminum, and build an airplane or a beer can out of that, they have created value. I want to own a piece of that company (and thousands of other companies).

Quote:

Originally Posted by Luck_Club ... Don't want to fight, just looking for like minded opinions and advice if there is any.

You may be able to make a small amount over the long run with covered calls. But that is also offset by having growing companies called away from you. Those growing companies remain part of the Total Market fund.

I've done covered calls in the past. I did well for a while, then seemed to revert to the mean. I gave it up because I didn't like the far lower diversification I had versus a Total Market fund. I didn't like that trade off against maybe making a little extra on premiums.

It's not a bad way to go, but those are the cons that I see. Plus the extra work.

-ERD50

[OldShooter]

Quote:

Originally Posted by Luck_Club I agree it is hard to measure tactical performance strategy vs buy and hold index investing. I've said to you and others just don't understand the index thing, and though it is promising for the last 10 years with over a 100% return the last 18 months have mustered only 2%. I'm kind of drawn to the options because I see a minimum return at the onset. I buy and write and the call expires out of the money is X; in the money is X+. If it goes sideways and I can't write again, there is still a return of the dividend until it becomes more favorable to write options at a later point. ...

Just to be clear I wasn't questioning your strategy, which I didn't even read very carefully. I was simply suggesting that a simple passive portfolio would be a good measuring stick to determine whether the strategy was a winner or not. Usually people declare a strategy to be a winner if they make money, regardless of whether they could have made more money with a different strategy.

This is what keeps the investment advisors in business; their clients never know how much less than the market return they are making. I just had a bit of a tense discussion with the FA on one of DW's several nonprofits. I was insisting they he provide total return numbers on the equity portion of the portfolio and he was resisting. Getting total return on a mixed portfolio of bonds and stocks is useless because you can't benchmark it.

Quote:

Originally Posted by Luck_Club The market in general is gambling at best IMHO. ...

Oh, not true. "At best" winning on the market is nearly sure thing. Certainly it has been for the last hundred years or so. But the shorter the investment period the more it is like gambling. Basically the market is a random walk with a slight upward bias that is a few percent in constant dollars. So you have to stay invested long enough for that small upward bias to swamp out the randomness.

One factor that obfuscates this fact is the idea that variation (standard deviation, Sharpe ratio, etc.) is risk and vice versa. That view draws attention to the randomness and completely misses the point of the long term bias. Another thing that obfuscates the situation is investors' inability to sit on their hands. The result is Warren Buffett's observation that “The stock market is a device for transferring money from the impatient to the patient.”

[Ducati52]

Not really answering the OP's full question, but I have a good track record of selling Puts (mostly) and Calls (occasionally). These are in my IRA, so they're always Covered.

My "strategy", if you want to call it that, is I sell Puts on companies I want to buy, either to add to a position or to start a new position, at a pre-determined price. For instance, if I want to add to my Apple position, but the current market price ($207ish today) is a bit higher than I'd like to pay, I might sell a Put for $200, usually 30ish days out. My goal is to average between 1% to 2% on the option, based on the risk, which annualizes out to 12%-24%. If the stock drops and I get it Put to me, then I own more Apple (or whatever), that I was wanting to buy anyway. So I'm usually not too disappointed either way, although I fully understand the upside is limited and the downside (theoretically) is unlimited when selling Puts, so they're not everyone's cup of tea.

I occasionally sell Calls against current positions, but seems to go against my "buy and hold" nature a bit more. But if you subscribe to the "I sell when a stock price increases by X" strategy, then why not set that price with a Call and get paid for it?

Also agree with poster who mentioned measuring whatever you're doing against some sort of benchmark. I use the S&P 500, as a portion of my portfolio is in an S&P 500 index fund, and it would be my "go to" if I wanted to be a completely passive investor. If I'm spending time and energy with individual stocks, or options, and I'm not consistently beating the S&P 500, then I have to question myself why I'm doing it.

Footnote: I'm not yet retired, so I'm investing for overall gains rather than say, income, which also helps dictate my strategies.

[NW-Bound]

The OP wrote:

Quote:

Originally Posted by Luck_Club As I enter this next phase of my investing life, I find that my current hodge podge of stocks don't all lend themselves to my option strategies. As a result I can only write options on about half the portfolio. I can find good buy and write opportunities. However, my current portfolio is either way in the money, or way out of the money. Should I switch to stocks that are better suited to options writing, or keep a blend of some that are good for writing and some that aren't?

I try to be conservative and hold many stocks and ETFs in different sectors to be diversified. What I have found, and it is obvious why that is true, is that tech or growth stocks have high volatility and options on these shares have the highest premium.

It follows that I watch these shares of mine more closely, and will write calls on these when I think they are near the top of their trading range, or when they overrun the overall market by a big margin. No company is so strong that it cannot get affected by the overall market and economy, and growth stocks are affected more than stable companies that sell staples and basic necessities.

So, I don't know if you are talking about being more concentrated in high-volatility companies to get more money from option trading. I will admit that my portfolio has a higher concentration of these kinds of companies than their representation in the S&P. I get lots of cash from writing covered calls on them, but when the market tanks like it did in December 2018, my portfolio took a more severe beating than a more conservative holding of Wellesley and Wellington mutual funds.

To me, it is still a form of market timing. I write covered calls when I think the share prices are high. I write cash-covered puts when I think that they are low. While making money, I always keep track of what happens if I turn out to be wrong. When the market goes crazy in the way up, will I have to sell all my hot stocks? When the market is in despair, will I be forced to buy a lot of stocks and what would my stock AA be?

I never go to the point where I would be devastated by the market moving 180 degrees from where I think it is going. I only try to make a few percent extra each year, and take just enough risk to get that.

An earlier poster talked about losing good stocks via covered calls. What I have done is to concede my mistake, and be willing to buy back the stock higher if the stock price rise is warranted by an unexpected improvement in the company fundamental. I may ease my pain by selling a put to buy it back.

I also never sell call options on all of my shares. This way, I will not have to sell them all if I am wrong. I also ladder the strike prices if the stock keeps going up.

You can see that I take a fairly conservative stance in my option trading.

[pb4uski]

Quote:

Originally Posted by Luck_Club ....just don't understand the index thing, and though it is promising for the last 10 years with over a 100% return the last 18 months have mustered only 2%. ....

Not sure where you are getting your data.

According to Morningstar, $10k invested in VTSAX or VFINX on 3/4/2018 would be worth $11,005.27 of $11,103.77 as of 9/3/2019... 10-11% for the 18 months... around 7% annualized return... not 2%.

VTSAX Vanguard Total Stock Market Index Fund Admiral Shares Fund VTSAX chart

[Luck_Club]

OP--Update
I'm roughly 6 weeks in on this strategy. Not sure how it will pan out long term but in very rough back of the envelope numbers:
I have about 42% of the portfolio working options strategies
I have captured 25% of the total annual income the portfolio generates in option premiums in only a month and a half.
I have captured 59% of the total annual income that would be generated by the 42% at risk under a buy and hold strategy.
Typical buy write will generate 1-2% return in 7-30 days.
There are lots of stocks that don't generate the 1-2% return, but more in the 0.5% over 30 days.
No realized losses from buy writes or long term holdings.
I have not measured potential lost capital appreciation, though that has happened, and was painful to watch. With 1 stock that had a rocket ship 12% launch it has been drifting back down towards the call out price, but is still 8% or so above the call.

Some observations:
Portfolio holdings are changing. Favoring more volatile stocks over juicy and steady dividends. Still playing it safe with dividend aristocrats for the most part. Takes a decent size position to generate meaningful premiums over the trading costs. The calls and cash covered puts, mess up the brokerage value/gain analysis requiring manual computation to evaluate account value.

[PoorOldCountryBoy]

Quote:

Originally Posted by Luck_Club Hi all, As many know I prefer dividend producing individual stocks, and avoid "buy the market" solutions. Long story short I'm dipping my toe into options only covered calls and cash covered puts. As I enter this next phase of my investing life, I find that my current hodge podge of stocks don't all lend themselves to my option strategies. As a result I can only write options on about half the portfolio. I can find good buy and write opportunities. However, my current portfolio is either way in the money, or way out of the money. Should I switch to stocks that are better suited to options writing, or keep a blend of some that are good for writing and some that aren't? If you have ever re balanced your portfolio in favor of all stocks more favorable to an option writing please share your experience and knowledge.

I have been trading options since 1985. For starters, read two good books on options trading until you understand them. If this is not something you can or want to do, you may want to rethink, or you can pay tuition in the school of hard financial knocks. The choice is yours. If you can't find these books yourself on Amazon, again find something else to do, you'll thank me for it.

Options are basically insurance. You are buying and selling insurance--there's math here. Statistics, calculus, etc. Writing a couple covered calls to say that you are doing it is fine, but that's really just ER entertainment, yes?

If this is off putting to you, but you want to diversify a CEF that does options writing can give you some participation. Not all of them use the same strategy, you need to read the details of those too.

The fraudster Bernie Madoff claimed to have long term returns of 10% using options strategies. Obviously that was wrong. Keep that in mind when setting your expectations.