Selling Covered Calls and Naked Puts

[NW-Bound]

^^^ Yes, there are all kinds of ways to use options. They all have plus and minus.

One needs to understand all that, before choosing his poison.

 

[Running_Man]

Everyone is being very helpful, I find this quite informative.

 

[FIRE'd@51]

An alternative is to buy the call for 68 and invest the remaining 365 in some investment grade preferred stocks that pay 5%. In 2 1/2 years the 365 will be 412. If SPY is 20% down (346), even (433) or 20% up (520) the call would be worth 0, 33 or 120, respectively. The totals would be 412, 445 or 532, respectively for IRRs of -2.0%, 1.1% and +8.6%, respectively.

Another alternative would be to simply buy the Dec 2023 put struck at 400 to protect your SPY position. Typically you will find much better liquidity in OTM puts than deep ITM calls, so my guess is you will probably overpay for the 400 call relative to buying the 400 put. Also, you should be investing the 365 in an instrument that matures in Dec 2023 to make the comparison fairer. By investing the 365 in preferred stock (which has a long duration) you are introducing interest-rate risk into the problem.

 

[pb4uski]

Interesting idea, but since your starting point is 433 of cash then you would be buying less than 1 share SPY. A put would be about 40, leaving 393 to invest in 0.9 share of SPY.

I come out with ending values of 383, 412 and 493 and IRRs of -4.8%, -2.1% and +5.4%... substantially less than the other two alternatives.

 

[MRG]

Is anyone here buying calls as a stock substitute?

I have a few times. I bought a leap on MSFT at the wrong time and should have doubled down on the prior pullback. It's a excellent idea if you have a strong feeling about a particular equity.

 

[NW-Bound]

Speaking of buying calls, I have not had any luck with it. I tried it a few times over the years, and lost money every time despite buying long LEAPs 1.5 to 2 years out.

Perhaps it's because of the wrong stock picks more than anything else, because I bought options on downtrodden stocks as a falling-knife-catching move, and the stocks always took way too long to recover.

A recent example is the GE LEAP that I bought in 2017. GE lingered down in the mud for too long, and the LEAPs expired worthless. Good thing I only bought a bit more than $1K worth for a lark.

So, no more buying options for me. I have had much more success with selling them.

 

[FIRE'd@51]

Interesting idea, but since your starting point is 433 of cash then you would be buying less than 1 share SPY. A put would be about 40, leaving 393 to invest in 0.9 share of SPY.

I come out with ending values of 383, 412 and 493 and IRRs of -4.8%, -2.1% and +5.4%... substantially less than the other two alternatives.

Whether you buy the stock and buy a put or buy a call and invest the cash, you are purchasing insurance against the stock being below 400 at the options expiration in December 2023. There is a cost for this insurance, which you have offset in your example by investing the cash in high-grade preferred stock which yields more than a safe fixed income investment that matures in December 2023. Because of this duration mismatch, your analysis is incomplete without marking-to-market the preferred stock at the options expiration. No one knows (nor can they with certainty) where the preferred stock will be trading two and a half years from today.

 

[ownyourfuture]

So, no more buying options for me. I have had much more success with selling them.

That's the key!

 

[NW-Bound]

Time value decay works to the advantage of the option seller, and to the detriment of the option buyer.

It's this advantage that let me collect more than $300K last year.

YTD, it's $142,278, according to Quicken. I did not work as hard at this as I did last year.

 

[Sniggle]

NW, any tips for a beginner? Do you play only with fortune 100 companies, or do you dabble with growth stocks?

And what does $300000 mean in terms of % return for you? ( if you are throwing around 8+ figures it would be different than if you are playing with low 7 figures). Thanks!

 

[NW-Bound]

NW, any tips for a beginner? Do you play only with fortune 100 companies, or do you dabble with growth stocks?

And what does $300000 mean in terms of % return for you? ( if you are throwing around 8+ figures it would be different than if you are playing with low 7 figures). Thanks!

I started to dabble in option trading back in the late 90s, but only devoted more time to this activity for the last few years. Lemme see what Quicken tells me.

In 2015, $15,074.
In 2016, $20,439.
In 2017, $49,546.
In 2018, $105,776.
In 2019, $112,685.
In 2020, $318,313.
YTD 2021, $142,278.

So, I am a beginner myself. It may be all luck, but I will tell what I am doing.

I have around 100 stock positions, all the way from boring stocks like AA, WMT, PFE, TSN, etc..., to semiconductor stocks like MU, INTC, LRCX, etc... and biotechs.

Some stocks like PFE don't move that much, and it's rarely worthwhile to write call options on. WMT, I occasionally have a chance to make a bit of money. Other stocks like JPM are a bit better for option writing. Even health care stocks like HUM jump around like crazy.

Tech stocks are the most volatile, and that's where I spend more time watching. All my stocks have decent P/E, and I don't do unicorn stocks or high P/E stocks like Tesla.

I will only say that my investable assets are not in the 8 figures. And the money I have been making with options is in the single-digit percentage wise. This money is included in the YTD percentage gain of 17.89% that I reported in the other thread about YTD investment gain.

Every percent of investment return counts. I would be doing OK just buy-and-hold, but I like to do a bit of contrarian play. Stocks go up, I sell calls. Stocks go down, I sell puts. I am always looking for something to sell every day.

And given that I enjoy spending a couple of hours each trading day looking for opportunities, the dollar amount made per hour is not bad at all. It's a lot more than what I made doing engineering work before retirement, and my pay back then was not bad.

 

[Sniggle]

Thanks for sharing some of your learned wisdom, NW. That helps. Although I am still working, I can earn what my company pays me without killing myself, and I enjoy spending the time researching stocks. With my 401K allowing an imbedded brokerage account, I now have enough capital to establish good positions with which to buy the stock and sell covered calls.

Most of the stocks I own have positive revenue, although I have nibbled at some of the tech security stocks that I have run across in my job, however I need to discipline myself to keep mostly focused on stocks that may follow the market down, but that will not lead the market down (this is my retirement stash, after all). I will post my results after a few months on this thread.

 

[pb4uski]

Whether you buy the stock and buy a put or buy a call and invest the cash, you are purchasing insurance against the stock being below 400 at the options expiration in December 2023. There is a cost for this insurance, which you have offset in your example by investing the cash in high-grade preferred stock which yields more than a safe fixed income investment that matures in December 2023. Because of this duration mismatch, your analysis is incomplete without marking-to-market the preferred stock at the options expiration. No one knows (nor can they with certainty) where the preferred stock will be trading two and a half years from today.

I agree that changes in the fair value of the preferred stock should be part of the analysis. I'm implicitly assuming that preferred stock prices are relatively unchanged during the holding period which may or may not be true.

These preferreds are not near as interest rate sensitive as one would think... and not anything like a long-term bond. For example, IPWLK was issued in Jan 1998 with a 5.65% coupon when the 20 year Treasury was 5.76% at $100... today the 20 year Treasury is at 1.98% and IPWLK is at $105.88 and yielding 5.34%. Another example, IPLDP was issued in March 2013 with a 5.1% coupon when the 20 year Treasury was 2.85% at $25... today the 20 year Treasury is at 1.98% and IPLDP is trading today at $25.65 for a 4.95% yield.

I have positions where the 20 year treasury has increased since I bought them and the preferreds have increased in value as well... so go figure... but overall they trade in a relatively narrow range in the normal course.

 

[Sojourner]

So, no more buying options for me. I have had much more success with selling them.

+1

I've been selling naked puts and covered calls consistently for the past 18 months or so, with no buying of options whatsoever. The past few months, I've made in the neighborhood of $2,500 per month collecting options premiums. To do this, I am putting roughly $200k of cash "at risk" (i.e., if all my puts were assigned), which means the APY I'm getting on this cash is roughly 15%. I sell puts only on high-quality individual stocks and ETFs, the vast majority of which I would not mind owning anyway (at a discount, thanks to the put). For me, this is a great way to earn extra income each month and boost the pathetic yields I'd otherwise be getting on idle cash sitting in a bank account. I'm very happy with the results I've been getting, and it's a fun little hobby, to boot.

 

[tutan]

+1

.. the APY I'm getting on this cash is roughly 15%. I sell puts only on high-quality individual stocks and ETFs

I've tried to follow the rule of thumb to sell puts at 85% strike to current price to avoid assignment, but it's rare to find 15% APY at that strike price. Maybe taking on more risk is needed?

 

[Sojourner]

I've tried to follow the rule of thumb to sell puts at 85% strike to current price to avoid assignment, but it's rare to find 15% APY at that strike price. Maybe taking on more risk is needed?

I don't keep close track of my strike-to-current-price ratios, but I'd guess they tend to range between 85-93%. Since I'm generally not trying to avoid getting puts assigned to me (given that I can then just sell calls on those), I don't follow any stringent rules on strike/price ratios. This is especially true for dividend payers, since I'm fine with getting assigned, selling calls, and then collecting dividends while I wait to be called.

 

[gcgang]

I gave up on covered calls after repeatedly demonstrating to myself what a terrible market timer I am, rolling up positions after stocks rose, not wanting to realize the large cap gains I had on the underlying stock. The only good that came was short term losses which I could deduct.

The concept makes great sense. I’m just bad at it. I’m sure you’ll do much better.

 

[mn54]

I started to dabble in option trading back in the late 90s, but only devoted more time to this activity for the last few years. Lemme see what Quicken tells me.

In 2015, $15,074.
In 2016, $20,439.
In 2017, $49,546.
In 2018, $105,776.
In 2019, $112,685.
In 2020, $318,313.
YTD 2021, $142,278.

So, I am a beginner myself. It may be all luck, but I will tell what I am doing.

I have around 100 stock positions, all the way from boring stocks like AA, WMT, PFE, TSN, etc..., to semiconductor stocks like MU, INTC, LRCX, etc... and biotechs.

Some stocks like PFE don't move that much, and it's rarely worthwhile to write call options on. WMT, I occasionally have a chance to make a bit of money. Other stocks like JPM are a bit better for option writing. Even health care stocks like HUM jump around like crazy.

Tech stocks are the most volatile, and that's where I spend more time watching. All my stocks have decent P/E, and I don't do unicorn stocks or high P/E stocks like Tesla.

I will only say that my investable assets are not in the 8 figures. And the money I have been making with options is in the single-digit percentage wise. This money is included in the YTD percentage gain of 17.89% that I reported in the other thread about YTD investment gain.

Every percent of investment return counts. I would be doing OK just buy-and-hold, but I like to do a bit of contrarian play. Stocks go up, I sell calls. Stocks go down, I sell puts. I am always looking for something to sell every day.

And given that I enjoy spending a couple of hours each trading day looking for opportunities, the dollar amount made per hour is not bad at all. It's a lot more than what I made doing engineering work before retirement, and my pay back then was not bad.

so you only sell options on stocks you own? no naked puts?

 

[Sunset]

+1

I've been selling naked puts and covered calls consistently for the past 18 months or so, with no buying of options whatsoever. The past few months, I've made in the neighborhood of $2,500 per month collecting options premiums. To do this, I am putting roughly $200k of cash "at risk" (i.e., if all my puts were assigned), which means the APY I'm getting on this cash is roughly 15%. I sell puts only on high-quality individual stocks and ETFs, the vast majority of which I would not mind owning anyway (at a discount, thanks to the put). For me, this is a great way to earn extra income each month and boost the pathetic yields I'd otherwise be getting on idle cash sitting in a bank account. I'm very happy with the results I've been getting, and it's a fun little hobby, to boot.

I don't sell naked puts, as my sales are cash secured. Too risky for me to go naked

https://www.investopedia.com/terms/n/nakedoption.asp
"Naked options refer to an option sold without any previously set-aside shares or cash to fulfill the option obligation at expiration. "

 

[Sojourner]

I don't sell naked puts, as my sales are cash secured. Too risky for me to go naked

Hahahah... "naked" is quite a risky (or maybe frisky?) sounding word. My put-selling is technically naked since I utilize margin to free up the actual cash I'd otherwise have to leave sitting in a 0% APY brokerage account. With margin, I can have the cash in a 0.5% high-yield savings account, and it can be very quickly transferred over in case of a market crash where all (or most) of my puts were assigned.

 

[NW-Bound]

so you only sell options on stocks you own? no naked puts?

I did more of selling puts last year, when I was around 60-65% in stocks. And of the $318k I made last year, about 1/3 was from puts. All my puts are cash-covered.

This year, with stock AA running 75-80%, I refrain from writing more puts. And I have been trying to reduce my stock AA by setting lower strike prices on the calls.

 

[Sniggle]

I gave up on covered calls after repeatedly demonstrating to myself what a terrible market timer I am, rolling up positions after stocks rose, not wanting to realize the large cap gains I had on the underlying stock. The only good that came was short term losses which I could deduct.

The concept makes great sense. I’m just bad at it. I’m sure you’ll do much better.

Trading inside a 401K, Roth or trad IRA does away with the concern for unrealized gains, as well as complicated tax forms. I just had my MCD shares assigned that I had had for a while (3 banger), and no worries.

 

[NW-Bound]

I don't sell naked puts, as my sales are cash secured. Too risky for me to go naked

https://www.investopedia.com/terms/n/nakedoption.asp
"Naked options refer to an option sold without any previously set-aside shares or cash to fulfill the option obligation at expiration. "

The term "naked put" is ambiguous. Out of the same investopedia Web site is another definition.

"A naked put is an options strategy in which the investor writes, or sells, put options without holding a short position in the underlying security."


However, selling a put and simultaneously selling short the stock exposes the speculator to a much higher risk than just selling the put alone.

What it does is to allow you to use the cash from stock shorting to secure the put. But if the stock moves up instead of down, and you are not quick in closing out the trade, you will lose much more money with the stock short than you gain from the put premium.

 

[FIRE'd@51]

However, selling a put and simultaneously selling short the stock exposes the speculator to a much higher risk than just selling the put alone.

That's because it is equivalent to selling a naked call.

 

[NW-Bound]

That's because it is equivalent to selling a naked call.

And yet, not selling short in conjunction with writing a put is called a "naked put", according to the above definition.