Writing Covered Calls

[ENP]

Also called buy/write and share renting.

Basically, a friend of mine has begun "share renting" shares from Australia but on the NYSE in the USA. He does it through people called Sharelord or something like that, through a Jamie McIntyre course that he did. I haven't seen any of his accounts or anything buy he took out a personal loan from the bank and started doing it.

He says he earns 5% return per month. This basically equates to about a 70% return every year. He says he spends 15 mintues per month actively doing it.

I mean 70% return with "no risk" is this guy for real? If it's this easy why doesn't everyone do it?

Look forward to your honest opinions on the subject.

Thanks.

 

[ENP]

He also has told me he has "insurance" on his shares so if they go down too much he can sell them for not too much loss.

 

[Mavis]

There is always a risk..... Interest expense, cost of put options, the difference between the protected level and purchase price & transaction costs. He wouldnt be making 5% per month if he is buying puts at the money with the above costs. Plus the cost of course......

 

[ENP]

Well I'm not sure exactly how he does it, he just told me the basics.

He has a personal loan of $10k and I just checked the interest rates on them of 18% p/a.

So the 5% per month is probably before commission, fees, losses, tax, etc, etc?

 

[Logique]

Options in a market this volatile? He's braver than me. And he's borrowing money to do it? At 18% pa..!? And all the transaction fees for such a hands-on, high turnover strategy.

For the average retail investor, I would dismiss this out of hand.

 

[Tysonboss1]

I write covered calls over some of my holding periodically so I understand the stratergy and 5% / month sounds over the top,

One thing that rings alarm bells with me is that he had to take on a personal loan of $10K to get started.

In my opinion if are looking to any form of wealth creation plan as a way of solving your money problem (not having any being the problem) then you are sure to lose in the long run, because the real problem that needs to be solved is your bad management of money which is why you have none in the first place.

Throwing more money at some body who can't handle the revenue streams(wages) they already have will only ever compound their problem over time.

If you are a beginner I suggest before you start any sort of wealth creation plan, Start by working on your money management.

Start spending less than you earn every week ( and I mean every week)
grow a few thousand dollars in a saving account
and once you have a system of spending less than you earn and you have cleared debt and started generating savings(capital) then you can start to look at options of where you can deploy this capital to generate further income streams and capital growth.

 

[Mavis]

By having the put protection in place it actually reduces the volatilty within the position. Volatility also increases the options premium he would receive.

 

[ENP]

So 5% isn't very realistic?

He went to a seminar and now wants to live the dream (don't we all )

Quite frankly, I want this guy to fail. He has been saying how great his returns are (he's been doing it for 2 months). Whilst I have my money in cash saving up for use in investments.

What is a realistic return for writing covered calls per year?

 

[Mavis]

It depends what shares you sell calls over. I have been doing this for about 10 years the best was approx 30% the worst around 10%. But then agian i sell naked calls and puts with only a few covered calls thrown in.

 

[wayneL]

x% per month return is totally the wrong way to look at covered calls. If it were that easy, the gurus would just systematically write CCs and be done with it.

They don't.

Let's look at this a different way.

Supposing you own a basket of shares; you have two choices, just hold the share or systematically write calls over them.

Which is going to perform better?

In a rampant bull market, the CC strategy will underperform, just holding the shares will do better.

In a stagnant or bear market, the CC strategy will outperform the straight out share portfolio. You might not make a profit, but you will lose less.

...but in certain circumstances, the CC strategy will work against you over a series of trades no matter what the market is doing overall.

"Insurance" changes the structure of the returns because of how it affect the Greeks. A covered call with put insurance is simply a synthetic bull vertical spread, AKA a "collar".

This strategy has its uses and is a good one in the right circumstances, but it is no Holy Grail, despite what the seminar clowns say.

...and please do not use the term "share renting". It is inaccurate and misrepresentative of the mechanics of the strategy.

Anytime you hear someone waxing lyrical about "share renting", think to yourself - "muppet".

 

[ENP]

x% per month return is totally the wrong way to look at covered calls. If it were that easy, the gurus would just systematically write CCs and be done with it.

They don't.

Let's look at this a different way.

Supposing you own a basket of shares; you have two choices, just hold the share or systematically write calls over them.

Which is going to perform better?

In a rampant bull market, the CC strategy will underperform, just holding the shares will do better.

In a stagnant or bear market, the CC strategy will outperform the straight out share portfolio. You might not make a profit, but you will lose less.

...but in certain circumstances, the CC strategy will work against you over a series of trades no matter what the market is doing overall.

"Insurance" changes the structure of the returns because of how it affect the Greeks. A covered call with put insurance is simply a synthetic bull vertical spread, AKA a "collar".

This strategy has its uses and is a good one in the right circumstances, but it is no Holy Grail, despite what the seminar clowns say.

...and please do not use the term "share renting". It is inaccurate and misrepresentative of the mechanics of the strategy.

Anytime you hear someone waxing lyrical about "share renting", think to yourself - "muppet".

Cheers for the explanation, I don't understand some of the terms you mentioned because I don't do call options or options at all myself.

But just wanting to get a grips on the potential returns etc that is available.

 

[mazzatelli]

But then again i sell naked calls and puts with only a few covered calls thrown in.

Ugh seriously Wayne, there should be a sticky thread on the derivatives section with one of your explanations on covered calls, collars etc.

Generally folks can't tell the difference between naturals and synthetics, how market makers work, hedging etc...

 

[wayneL]

Cheers for the explanation, I don't understand some of the terms you mentioned because I don't do call options or options at all myself.

But just wanting to get a grips on the potential returns etc that is available.

Well, basically anybody that says x% per month is talking out of their @ss. Anybody promoting 5% per month is specifically targeting stocks with high implied volatility (AKA perceived risk)

Why?

It only considers the premium received for the call and ignores the movement of the underlying.

Let's say you have a $100 stock on which you receive $5 premium on the ATM call... a purported 5% return.

But at expiry the stock has gone down to $90.

Have you made 5%?

Nope!

On the other hand, what if the stock has gone to $120?

You keep the $5, but have your shares assigned, forcing you to sell at $100.

Yes a 5% return, but it could have been a 20% return.

NB There are dynamic management procedures that can be used to potentially boost returns, but the principle remains the same.

Ugh seriously Wayne, there should be a sticky thread on the derivatives section with one of your explanations on covered calls, collars etc.

Generally folks can't tell the difference between naturals and synthetics, how market makers work, hedging etc...

Yeah that's a good idea.

 

[barney]

Well, basically anybody that says x% per month is talking out of their @ss. Anybody promoting 5% per month is specifically targeting stocks with high implied volatility (AKA perceived risk)

Why?

It only considers the premium received for the call and ignores the movement of the underlying.

Let's say you have a $100 stock on which you receive $5 premium on the ATM call... a purported 5% return.

But at expiry the stock has gone down to $90.

Have you made 5%?

Nope!

On the other hand, what if the stock has gone to $120?

You keep the $5, but have your shares assigned, forcing you to sell at $100.

Yes a 5% return, but it could have been a 20% return.

NB There are dynamic management procedures that can be used to potentially boost returns, but the principle remains the same.

G'day Wayne, Maz and other option lads ..

My knowledge on options is very limited so if I use the wrong terminology forgive me , but is the following strategy workable ....

I like stock XYZ and I think it might be ready to rise

Instead of buying the stock, I write a put option over the stock and collect x$ premium

If the stock falls and I get assigned, at least I get a slightly better entry price.

If I do get assigned, I write a covered call over the stock which gives me a bit more buffer if the SP drops further

Lets say the stock continues to drop and I want to get out .... Do I have to close the option position first before I can sell the stock, or does selling the stock automatically close the option position as well?

The concept behind the above strategy would be to continue to write put options and collect x$ premium until assigned, but only on stocks I was happy to own anyway ....

Is that a valid strategy, and can it be improved on to lower risk ?? ..... Be gentle

 

[BradK]

Yes and no Barney.

Writing puts and collecting the premium on stock you want to collect anyway seems like a good little buffer - ie. free money (although arguably not free because you are taking on risk).

If you were going long on a stock, would you not expect it to be going UP? And what if it fell significantly below the circa 3% you were getting for premium?

Not silly, but does not take into account major volatility swings.

I have been out of call writing for 2 years now.

Following the advice of Jamie McIntyre? Hmmmm... have a long lay down until the thought goes away.

Brad

 

[BrightGreenGlow]

If you don't mind your shares getting executed its an AWESOME strategy... And yes 5% a month is do-able EASY! However you run the risk of limiting your profit return but if I have shares of 1,000 units I'll always write calls for them unless I buy because I think they are gonna be VERY bullish!

Great income strategy!

 

[wayneL]

Oh Brother!

 

[wayneL]

If you don't mind your shares getting executed its an AWESOME strategy...

That's a bit callous. Shouldn't they be entitled to a fair trial first? :

And yes 5% a month is do-able EASY!

Let's have some examples where you have done this MoM.

However you run the risk of limiting your profit return

Eh?

5% per month year upon year doesn't sound like limiting profit to me. If 5% pm is so easily achievable, why worry?

 

[BrightGreenGlow]

Oh Brother!

Wayne, if those shares went down to $90 thats a win mate because they didn't get executed.... would you rather negate the $5 and still have your SP at $90? Mate, the more times you can get this $5 the more you've made for free. Your paper loss might have gone down due to the current SP, however, you'd have $20 in premium??

If your pay is to hold the stock, its a great strategy.... you say volatility... well if it a volatile stock you'd expect a better premium and if it gets executed you'll only limit your profit, its really a win/win if you plan it right. Also, since the stock is volatile chances are you'll be able to buy back in even cheaper maybe.

I like this strategy anyways and I've made over $2k on BHP alone and every time I got executed the SP got hammered and I bought it lower again. ie: Minerals tax lol!

 

[BrightGreenGlow]

Actually sorry 5% I was thinking about 5% per year not month. My apologies Wayne