Covered Calls for Fun & Income

May 9, 2009

Trading Plan Update

Filed under: Covered Calls — Tags: , , , , , — Jeff @ 12:38 PM

This is a quick post to let you know I updated my Trading Plan – for those of you interested.

I added a new section called Managing and Exiting Trades, which will be of interest and helps me while monitoring trades or making decisions if the position finished OTM.

I also made some other minor updates, especially in the Entry Methodology section.

The best way to read it is to download it using the link on the right (from box.net – 200905 Trading Plan). Trust me, it’s much easier to read that way.

I am also making another download available for those of you who use Interactive Brokers (open-cc-monitor.xls). It’s an Excel spreadsheet that uses IB’s real-time data to update stock and option prices. With it, you can watch your stock and short Call prices and get instant updates on the current value of your position. The only data you will have to enter is in the columns highlighted yellow. The most important data is in columns K through Q.

I also added columns for you to calculate two additional scenarios for rolling out and/or up.

In order to use it, you will need to download and install the Excel plug in from Cyberxpert using this link. Just follow the installation directions. The spreadsheet is already set up.

– Jeff

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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 10, 2009

The Case for Current Month Calls

0409_greedisgood

The famous Mr. Gekko from the Movie “Wall Street” put it very bluntly: “Greed, for lack of a better term, is good”.

Is it?

You might want to read an article by Michael Lewis posted on this blog. Mr. Lewis is the author of Liar’s Poker published in 1989 that chronicles the greed and corruption on Wall Street and predicts its eventual collapse. Coincidentally, the movie Wall Street was release two years earlier – in 1987.

Where is all this leading and what does it have to do with Covered Calls?

When I first started writing Covered Calls, I would sell Calls several months out – as many as 6 in some cases. Why? I was attracted to the huge premium – greed. Look at the example below:

0409-caseforcurrentmonth_chain

You can see that the further out the expiration date is, the higher the premium. Seeing dollar signs, huh?

But wait! Take a closer look! Notice the monthly premium actually drops off the further out you go. Prove this by dividing the Bid price of the Call option by the number of days to expiration, as illustrated in the table below (then multiply by 100 for the total Premium/Day for each contract).

0409-caseforcurrentmonth_calcxls

Granted these numbers may be a bit skewed because April expiration is only 8 days away, but it’s quite possible that it makes for an even more powerful argument – since this example is OTM and all we are looking at is Time Value. So the April Call premium is falling at a much higher rate than the other months, as expressed as the theta in the table below.

0409-caseforcurrentmonth_analyticsxls

(The option’s theta is a measurement of the option’s time decay. The theta measures the rate at which options lose their value, specifically time value, as the expiration date draws nearer. Generally expressed as a negative number, the theta of an option reflects the amount by which the option’s value will decrease every day.)

Now I am not a mathematical wiz nor do I understand completely what I am seeing here, but the numbers speak for themselves. (I had them verified by an option professional.)

In conclusion this appears to support the strategy of only (whenever possible) writing Calls, initiating Buy-Writes and even writing Cash Secured Puts for the current month only.

I rest my case, your Honor.

Today is a Market Holiday. Enjoy your long Holiday weekend.

Thank you for visiting my blog. Please feel free to comment.

– Jeff

“We make a living by what we get; we make a life by what we give.” Sir Winston Churchill (1874 – 1965)

April 5, 2009

Where Are We Headed?

Filed under: Covered Calls — Tags: , , , , , — Jeff @ 10:21 AM

I don’t know, but I can give you my unsolicited and unprofessional opinion – which in reality is just as good as anyone else’s.

I was looking at the major indexes (DOW, SP 500, NASDAQ 100, RU 2000 and SP 400) on a weekly chart this morning – trying to figure out where we are headed from a technical perspective. Almost all of the major indexes were very Bearish in February and the first week of March, with the exception of the NASDAQ 100, which did not set a new low like the others but hit support at 1030 and rebounded. The indexes are so similar you could overlay one on the other and not tell the difference. For all of them, the last high was the week of 1/9/09, which could provide resistance.

I suspect there could be some ‘profit taking’ this week, but the overall trend appears to be up – 4 straight weeks’ closing up is nothing to sneeze at.

How does this apply to our Covered Calls? I personally like down days, as long as it’s not more than 1%-1.5% on the indexes. This provides the opportunity to buy low in expectation of a rebound. My personal choice would be to stick with the NASDAQ 100 CallWriter list and continue to look for decent downside protection. Remember, I have enough cash for one more trade.

(NOTE: I updated my Closed 2009 page – you may want to check it out)

– Jeff

“Nobody in the game of football should be called a genius. A genius is somebody like Norman Einstein.” Joe Theismann, Former quarterback

April 1, 2009

Caution…

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.

0401-tm-for-x

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 31, 2009

Covered Call Weather Report – March 31, 2009

Filed under: Covered Calls — Tags: , , , , — Jeff @ 6:54 AM

Partly cloudy with moderating temperatures.

Today I am feeling like a new-born lamb taking its first steps – a bit shaky. With that in mind, I will be looking at Covered Calls that are deep ITM, such as the example blow (from CallWriter Real Time Lists ™. I will be busy again this morning with personal matters (no, no plumbing projects today) and won’t be able to look until around noon – which is my preferred time anyway. The great thing about Covered Calls is that you don’t really have to time the market.

I haven’t tried this strategy yet, but you should check out the new page that I just put up called “CallWriter SuperPut Strategy Explained“. I plan to paper trade this strategy for a few months and I will report back the results in a future post.

BTO Stock

STO Option

Option Exp/Strike

Cost Basis

ITM Return

Downside Protection

PNC 26.92

PZHDX 6.00

APR/22.50

20.92

7.55%

22.9%

– Jeff

“Take calculated risks. That is quite different from being rash.” George S. Patton (1885 – 1945)

March 27, 2009

Covered Call Weather Report – March 27th, 2009

Filed under: Covered Calls — Tags: , , , , — Jeff @ 6:53 AM

Mostly clear and warmer.

Front Month (current month) Covered Call Writers arm your weapons!

Well the market has had a nice run-up this week. Optimism abounds. The talking heads are claiming the bottom is past and we are on our way up. Only time will tell.

This morning I was cruising through the lists at Call Writer and was particularly intrigued by the Under $10 list and In The Money Calls list. Both of these lists are providing huge downside protection (% of Downside protection = total call premium ÷ stock cost). This number is the one that I will be focusing on – looking for Covered Calls that meet my Trade Plan entry criteria and will give me at least 10% downside protection. In fact, the Under $10 list not only provides large downside protection but also Called Returns of 10% or more!

Will I enter any today? Maybe, but not until later in the day (I have personal business to take care of in the morning – it’s a small plumbing project at my daughter’s house). Mostly I will be focused on entry next week for current month Covered Calls.

– Jeff

“If you have knowledge, let others light their candles at it.” Margaret Fuller (1810 – 1850)

March 25, 2009

Covered Call Weather Report March 25th, 2009

Filed under: Covered Calls — Tags: , , , , , , — Jeff @ 9:50 AM

Cool with a slight chance of rain.

Since I trade Covered Calls using the Call Writer methodology, I am urging caution on initiating any buy writes at this time. Myself? I am sitting on the sidelines, at least for this week.

Almost every stock on a majority of the Call Writer lists looks like the S&P Index below. Since my methodology depends heavily of technical analysis (70%), I am concerned with the Stochastic indicator which is above 80. This is not a tradable indicator according to my Trade Plan. Also note a recent breakout of the downward trend line. These are not contradictory, but may be an indication of a reversal of trend – but it’s too early to go all in.

It’s entirely possible that the trend line needs adjustment, but I need a few more days of confirmation. I would also look for a few more days of closes above the 50 SMA.

In a recent post, I mentioned that I was not planning any Covered Calls this week, since I wanted to wait until we are closer to expiration for April. The chart confirms that statement. Just luck, I guess.

– Jeff

“Don’t knock the weather. If it didn’t change once in a while, nine out of ten people couldn’t start a conversation.” Kin Hubbard (1868 – 1930)

0324-s-and-p-chart

March 23, 2009

Monday After Update

First, some housecleaning items. I have slightly modified my Trade Plan to make it a bit easier to understand. I also noticed that there have been a lot of views, so since I always intended to share this will all my readers, I have added the capability for you to download a Word version for your own use. Look for the file download in the box box at the lower right.

Wow! Big day, huh? All major averages up over 6.5%. You won’t see many days like this. A word of caution, this would have been a very bad day to enter new Covered Call positions as buy/writes. Being the skeptic that I am, I expect a pull back soon. It’s a good day, however, to sell calls on stocks that you would have wanted to sell some Calls on.

Thanks to the Obama administration, the toxic asset announcement gave a very nice boost to LNC this morning. I entered a Limit order for 8.25 just after the market opened. The order executed shortly thereafter. Remember, my original goal was for it to be called at 7.50, so the 8.25 was just extra money in my pocket. My original return would have been 5.33% if it had expired ITM last Friday. Since it didn’t and the stock had a nice pop this morning, I increased my gain to 12.23% – more than double my goal. For those of you looking up this symbol, you will see that it closed at 9.47 today. Since I am very happy with a +100% gain in my return, I cannot look back and say “shoulda – woulda – coulda” and lament over not capturing the total gain. Remember, bulls make money, bears make money, pigs get slaughtered.

I had two stocks with Calls that expired OTM on Friday, X and UAUA. This was a very good day to write Calls against them.

X – my cost basis was 21.39. I sold to open APR 22.50 Calls for 1.60 and lowered my cost basis to 19.79. If the stock is above 22.50 on April 17th, the gain would be 13.69% (not including fees). This more than doubles the original gain.

UAUA – this stock has not been doing well lately. It’s funny (not), I was reading the 10 Commandments of Covered Call trading at the Call Writer site this morning. The one that stood out was #8 where John Brasher says “Don’t let the fact that you’ve noticed a stock on the lists a few times, or even profitably traded a stock before, seduce your judgment. Treat every stock to the same analysis on every trade, even the “good” ones. Good dogs do bad things, and so do stocks.” Well, I have had very good success with UAUA in the past, and I did let that seduce me. Looking back at when I entered this trade, it was in violation of many of my rules in my Trade Plan. So now I am scrambling to recover and will probably end up holding this much longer than I really want to. Yes, this is another confession. To get to the point, my cost basis was 6.49 and I sold APR 5.00 Calls this morning and now my new cost basis is 5.99. Stay tuned on this one, since I may have a month or two yet to get into positive territory with this stock.

Holly Cow! This was a long post!

– Jeff

“I’ve only been doing this fifty-four years. With a little experience, I might get better.” – Harry Caray

March 16, 2009

New Look – New Positions

Filed under: Covered Calls — Tags: , , , , , — Jeff @ 1:22 PM

If you have been here before, then you know that this is a new theme. It turns out I am writing in this blog much more than I ever expected to, and I needed something wider with a smaller font so I could fill it with my hot air. If you haven’t notice, this blog is a bit more light hearted than many other financial blogs – it’s because I have so much fun with Covered Calls.

Today I entered a position on LNC from my watch list yesterday. PRU and HIG took off to the upside pretty heavy this morning and brought the ITM expiration profit down to 1% or so. But LNC was still hanging in there at a respectable 5.33% return. Here are the details:

BTO Stock

STO Option

Option Exp/Strike

Cost Basis

ITM Return

Downside Protection

LNC 9.18

LNCCU 2.06

MAR/7.50

7.12

5.33%

28.9%

I have a position in TXT right now that expired OTM last month. Today, the price rose enough to justify writing a call against it for April. Although it puts me upside down if it expires ITM in April, I plan to roll it out or up as needed. So I sold to open an April 5.00 for 1.05 that brings my cost basis to 5.50 (see open positions for detail).

I think, therefore I am – I think.

Jeff

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