“I heard you speak twice in Plainview, NY and have been following your covered call method for about two years with great success. THANKS! Now I am interested in cash-secured puts and have stumbled across a question. Depending on the stock, the ratio of call-ask premiums to put-ask premiums is lopsided…sometimes greater than 2-to-1. Why is that and is there any inference I can draw from that about the stock? Thanks” ——— It’s the 2nd Wednesday of the month. Time for another original episode of Ask Alan. AA#115, “Differences between Call and Put Premiums.”
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11 comments… add one
Hi Alan,
Just to confirm. I’ve tried looking at a few chapters on exit strategies quickly as I plug in my numbers in your calculators. When you’re computing what if scenarios around buying back options. You should be plugging in the “ask” price correct? You buy the ask and sell the bid? I think I remember that in the book. Is it possible to play the spread when buying to close as well?
Thank you,
Bill R
Bill,
You are 100% correct on both counts. We sell at the bid (lower price) and buy at the ask. You can also “negotiate” the price with the market maker when the spread is greater than $0.10 leveraging the “Show or Fill Rule”. In the case of a BTC order, I would place the limit order slightly above the mid-point of the spread. Remember also NOT to check the “All or None (AON) Box” on the trade execution form.
Alan
Thank you Alan – I will re-run my numbers based on that. The spreads were significant so I was hoping I could do that.
Bill R
Bill,
Our guideline is not to enter a trade unless we see at least 100 contracts of open interest and/or a bid-ask spread of $0.30 or less.
Alan
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Although Walmart had a negative impact on the market today, we are seeing more eligible candidates in both our stock and ETF reports lately, a bullish sign.
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Alan and the BCI team
Good Morning Alan from Cancun Mexico!
I know you are a very busy man but : being a very strong thankful admirer and USER of your “Blue Collar Investor” strategies, I would very much appreciate your review of the “ROLLING UP” example below and please comment on the method and accuracy of the calculations:
9/21/2015: Market Tone: “CONFIMED” UPTREND”
Bought 100s NHTC at $32.31
Sold the 30 “ITM” call for $4.30 for an ROO of 6.6%($4.30-2.31)/30 And Downside Protection of 7.1% ($2.31/32.31)
10/13/2015: the 4TH week of a 4-week option contract period
Market Tone: “CONFIMED” UPTREND”
NHTC increased from 32.31 to $39.86 in 21 days= +$7.55 or +23.4% ($7.55/$32.31)
Using a DELTA of (0.80)/$1 of increase or decrease for“ ITM” Call pricing the “LIKELY” 20 % price of the 30 Call “s-t-o” BID is $4.30+(0.80 x $7.55) or $10.34/share.
The NHTC 30 Call BUY-TO-CLOSE “ASK” price is presently at $10.20
Buy-to-Close the 30 Call at $10.20; and Sell- To-Open the “40” Call for $1.30.
Income from Calls $4.30 +$1.30-$10.20)= LOSS of (-$4.60)
The “ROLL UP” to the 40 Call results in stock APPRECIATION of $9.86.
One month Profit of ($9.86-$4.60) = 17.5% ($5.26/$30) with 0.4% Upside Potential ($0.14/39.86).
I know from all of your books that I have, i.e. “Cashing in on Covered Calls”, “Exit Strategies”, and “Complete Encyclopedia for Covered Call Writing” Volumes 1 and 2. That you don’t favor the strategy for there are only definitions of it and reasons why you don’t favor it BUT NO EXAMPLES!! Should I or my “students” care to use it.
Thanks in advance for your reply
Sincerely
John (here known as ” PREACHER of BCI Covered Calls!!)
Hi Preacher John,
Your math is excellent with one minor error. You counted the intrinsic value of the initial premium twice…once in calculating the net debit option loss and a second time in decreasing the cost basis. The actual share appreciation is (as you stated) $7.55. The return equation should read:
$(7.55 – $4.60)/$32.31 = 9.1%…this is minor compared to the overall market assessment.
There are two reasons I would not make this trade:
1- We are losing all of our downside protection on a stock that has appreciated significantly in a short period of time. We are also losing $34.00 (1%) + 2 commissions) of time value profit to close our initial position.
2- Let’s look at the second part of the trade that makes it look enticing: You are generating a 3.3%, 4-day return when rolling up. That scares me. The implied volatility of that premium is huge and means the market is expecting a tremendous price fluctuation by expiration. Big premiums = big risk…on a stock that has already gone to the moon this contract month. Covered call writing is a conservative strategy for conservative investors so this trade is only appropriate for high-risk tolerant investors.
Here is a link to an article I previously published on this topic:
http://www.thebluecollarinvestor.com/rolling-up-in-the-same-contract-month-evaluating-a-real-life-trade/
Keep up the great work spreading the word internationally on this great strategy.
Alan
Hi Alan,
Part of the BCI strategy is to not own a stock when an ER is coming out.
1. Do you have a rule of thumb for how much before the ER you sell the stock? A day, a week, or how much?
2. The weekly report of October 9 included stocks that have an ER report due out the week after expiration Friday of October 16. For example, EEFT. The ER day is notified on the Running List. If I didn’t have EEFT in my portfolio already, the first date I could have acted would have been October 12. But with expiration Friday just a few days away and the ER due out in the 21st, does it make any sense to buy that stock, sell a call, then sell the stock right after expiration Friday? If not, then it’s not clear to me why it would be in the eligible list.
Thanks,
Michael
Michael,
1- Shares can be sold anytime prior to the earnings date. Generally, we will remove a stock from our portfolio at the beginning of a contract month when the report is scheduled. We can then use the cash to enter a different option-selling position. Some members write Weeklys up until the ER week and then again after the report passes.
2- On our Premium “Running List” (mid-report) we break down eligible candidates by contract month. Since EEFT is projected to report on 10/21 it is eligible for the October contracts. This security has been on our Premium Watch List now for 4 consecutive weeks. Note also that once the report passes, it will become eligible as long as there isn’t an egregious report (we will see a large gap-down in price).
So for this equity, it does not pay to enter the position until after the report date at this time. You will notice that there are currently 8 securities that report in the first week of the November contracts. We may decide to use these after the reports pass. I would wait to see the “running list” that will be published this weekend. Earnings season is always a challenge but one we can all manage.
Alan
Thanks, Alan.
One other question: I believe Vol. 2 of your book says that a $50,000 portfolio should be allocated about equally between five stocks. How many stocks do you recommend for larger portfolios – $100K, $250K, $500K or $1 million?
And does that mean, in essence, that every stock will turnover every 2 to 3 months because of quarterly earnings reports?
Regards,
Michael
Michael,
The reason for the 5 positions in a $50k portfolio is because of the BCI guideline that no one stock or industry should represent more than 20% of our portfolio. For those of us with larger portfolios, we have an opportunity for greater diversification. As a guideline, a $100k portfolio can have between 7 – 10 positions. A $300k portfolio up to 20 positions. Much depends on each investor’s comfort level in terms of managing positions.
My personal portfolio consists of 15 – 20 positions (I manage a few more in my mother’s account) and sell between 50 -100 contracts per month.
For those new to this strategy, I would start with a smaller portfolio and evaluate the appropriate comfort level. Keep increasing in size until that level is reached.
Yes, because of earnings reports, I rarely hold a stock in my covered call portfolio for more than 2 months in a row with 3 caveats:
1- This rule does not apply to ETFs.
2- Some of our members use Weeklys and just step aside for those 4 weeks per year when earnings are published.
3- Rarely, but from time-to-time, I will own and hold a stock through an earnings report and then sell the option after the report is published and price volatility subsides.
Alan