Covered Calls for Fun & Income

May 6, 2009

Volatility – HV vs IV

Have you been watching CROX? My gosh! It’s on fire! I entered this on 4/28 and paid 2.21 for the stock and sold the MAY 2.00 Call for 0.41. As of this moment, the stock is at 3.89, a 76% increase! Thinking that I should close this early, as I have in the past when other stocks made similar moves, I ran the numbers. To my surprise, it didn’t work out well at all. I would have to buy back the Call for 2.01 for a net debit of 1.60 and sell the stock for a net gain of 1.68 – I would only make 8¢! Why?

A closer look reveal the Bid/Ask spread on the MAY 2.00 Call is 1.60/2.01 – a rather large spread which was not there when I entered this Buy-Write (I wish I had recorded the actual numbers). But the most obvious indicator is the Implied Volatility (I have posted about this in the past – see April 18th post).

Remember, I want to stay away from Covered Calls that have a Historic Volatility on the stock that is less than the Implied Volatility on the option I am targeting. In this case, as of this writing, the stock HV is 175% (high enough as it is) and the MAY 2 Call is 421% – well over double the HV! That’s why I can’t close this early.

If we express the HV/IV relationship as a ratio, in this case we would get 1:2.4 – definitely a trade I would pass on if I were to do it today. I look for ratios of less than 1:1, more something like 1:0.75 (where HV=120 and IV=90 for example).

When I am looking to enter a trade, one of my several stops on the CallWriter Research Page is the H. Volatility link. Here I can quickly compare the 10, 20 & 30 day Historical Volatility and the Implied Volatility of the near the money options. If they are out of line (greater than 1:1) the potential trade is rejected immediately.

– Jeff

“I have opinions of my own — strong opinions — but I don’t always agree with them.” George Bush (1924 – )


April 18, 2009

Expiration Week and IV

I usually don’t consider rolling short calls up/out until the last few days before expiration. Thursday I was analyzing my options when it struck me that some of the rolls to the next expiration month would result in very small net credit or even a net debit! I have never experience this before – after all time value should count for something. Then I noticed something rather disturbing: the Implied Volatility (IV) for the options of the 3 positions that I wanted to roll was extraordinarily high!

In particular, let’s discuss EXM – again!

I am pretty far underwater on this stock – my cost basis is much higher than the strike price of my short Call. That being the case, I wanted to roll my APR 5.00 to the MAY 5.00. Normally this results in a net credit, but not in this case. It actually would have cost me money to do this roll out. Then I noticed the IV of the APR 5.00 was over 350% and the MAY 5.00 was around 125%. The IV of the Puts was relatively normal in comparison.

Now IV does play a part in the Black-Sholes formula for option pricing (I don’t claim to understand the formula) but how much? Apparently quite a bit! This volatility means something!

So, what should I do? The stock has had a nice run up since its low of 3.00 on March 3rd and closed Wednesday at 6.78. High IV means that the market is anticipating an event for EXM and it could be soon. I didn’t want to roll any further out than the next month – it’s just too risky.

Now we are all very small players, the big guys control all the cards. Somebody knows something. What I read into the IV on the Calls was that EXM may make a significant move in a bullish direction very soon. I checked everywhere I could think of for any news that might give me a hint, but there just wasn’t anything out there. However, I was backed into a corner and didn’t want to get called out on the rest of my positions in EXM, so I made a decision – I bought back all those calls Thursday afternoon for 1.95!

This cost me a chunk of money (one reason why I keep at least 10% of my account in cash) but now I don’t have to worry about early assignments. As of Friday, the stock is at 7.54, so I already made back 0.76 of the 1.95 I paid for those Calls. What I will do is watch for the right time to either sell the stock outright if it rises above my Cost Basis or write another set of Calls against it if it gets weak and goes flat or pulls back again.

My lesson learned is this – for positions that are deep ITM, I will not longer wait until the last few days prior to expiration to roll up/out positions that I either want to keep or are too far underwater and ITM. Of course the best position to be in is to be profitable and ITM and have your shares called away.

Monday night I will post my results for APR expiration.

– Jeff

“The wise are instructed by reason; ordinary minds by experience; the stupid, by necessity; and brutes by instinct.” Cicero (106 BC – 43 BC)

April 8, 2009

9 Days to April Expiration

After 4 up weeks in a row, it’s no surprise that the markets have pulled back. As noted in past posts, I was focusing on Covered Calls I opened in April that had good downside protection. With 9 days to go, let’s see how they are doing.

PRU – Opened on 3/31 with an APR 15 Call and 26.19% downside protection. As of close yesterday (22.10) it is still very much ITM.

JAVA – Opened 4/2 with an APR 7 and 19.08% downside protection. As of close yesterday (6.28) it’s OTM. The deal with IBM fell through and the stock got hit hard. Its possible JAVA management may get another offer or make an announcement in the next week or so. I just need the stock to get to 7.00 to make out. I probably will not take a loss on this – I believe there will be good news coming. FYI – my Cost Basis is 6.57 on this stock.

LNC – Opened on 4/6 with an APR 5 and 27.25% downside protection. Closed yesterday at 6.89 and is still ITM.

If you look at the charts for these plays (with the exception of JAVA) you will see that they are holding their own relative to the market trend this week. We can only hope this continues for 9 more days.

– Jeff

“Courage and perseverance have a magical talisman, before which difficulties disappear and obstacles vanish into air.” John Quincy Adams (1767 – 1848)

April 1, 2009


Pre-market this morning is showing a negative open. Europe is down, although A-PAC is mixed. First Quarter Earnings Season starts next week.

With all that in mind, I will still be looking for the best downside protection for the two positions I still have cash for, and I certainly will not pick any that have earnings on or before expiration on April 17th. Picking Covered Calls with high downside protection reduces my gains, but having 20% or more downside protection at least allows for a lowered amount of risk.

Almost every other open position is currently OTM, which means I will not have many called away this month. There are a few positions that I can roll down to a lower APR strike and still make a profit, such as US Steel (X), and I will not hesitate to do that – but I will wait until a few days prior to expiration to make that decision.

The snapshot below is a tool called Trade Management Calculator TM included with the CallWriter service. It allows me to instantly in real-time compute what-ifs on my positions. The example is for US Steel and shows the Flat and If Called calculations for rolling down those Calls. Also, using Interactive Brokers for my trades will only cost me a few dollars to do the roll.


I will be busy again today, and may just monitor and not make any entry decisions. A distraction when I am trying to make a good choice has had very negative implications to me in the past.

– Jeff

“I am not young enough to know everything.” Oscar Wilde (1854 – 1900)

March 15, 2009

This Cash is Burning a Hole in My Pocket

Needless to say, I have a lot of cash in my account from last Friday. Do I wait for the Monday after expiration? Do I look for April Covered Calls this week? No, I will look for deep ITM Calls for March that I can write on Monday. I have 3 prospects from the Call Writer Deep Strikes In The Money list. These 3 are attractive in that they meet 4 or more of my Trade Plan entry criteria but alas, they are all financial stocks (well, insurance anyway). Be that as it may, they do have a huge amount of downside protection (how far the stock price will have to fall to hit the cost basis) and only 5 days of holding time. None of these stocks are big news makers – at least not TARP-wise.



ITM Return




MAR 7.5




MAR 15







I don’t intend to go all-in on these (if I do at all) – I will still follow my money management rules.

Stay Tuned – Jeff

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