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If you could feel certain that your retirement capital would earn 30% every year for the rest of your life, would you have enough to comfortably continue your present lifestyle well beyond the age of 100? I think it is possible, and it wouldn't take too much of a nest egg to accomplish.

I have been doing a lot of thinking lately on what I would do if I suddenly decided to retire (just an academic exercise - I have no real thoughts of actually doing it). I looked at the capital I had accumulated over the years and wondered how I could assure myself that I would have enough cash flow for the next 20 or 30 years to be able to continue my admittedly rather extravagant lifestyle.

If you check out the investment alternatives out there, it is not easy to make money in today's market environment. Bonds are surely not the answer, stocks are a crap shoot (85% of mutual funds can't beat the indexes, and the indexes aren't that great to start with), CDs don't pay anything, and we all know how bad the real estate market can be. So what do you do?

My answer (obvious, since I trade options every single day the market is open) is to use options. Since I like Apple (NASDAQ:AAPL), that seemed to be a good place to start. I really wanted to use the S&P 500 tracking stock (NYSEARCA:SPY) rather than an individual stock, but the numbers just didn't work out (see discussion below). I set out to find a strategy that would have an extremely high likelihood of making at least 30% a year and wouldn't require much trading.

Here is the risk profile graph for a $15,000 portfolio based on AAPL when the December options expire on December 21, 2012. In eleven weeks, the portfolio should earn at least 15% if AAPL does anything except fall more than $60 (about 10% of its current value). If the stock stays the same, goes up by any amount, or falls no more than $60 in 11 weeks, a minimum of 15% should be there.

Presumably, you could do this same thing three more times in a year. If it worked every quarter, theoretically you could make 60% in a year. I would be content with half that much, but surely wouldn't complain if it came along.

I see this portfolio as being unusually dull. Most of the time, I would not expect a single trade would have to be done for three months at the outset, and then only on each monthly expiration day thereafter. If the stock falls by $30 or $40 from the starting price, we would place an adjusting spread, which would reduce the gain for that time period but should eliminate a large loss if the stock continued to fall.

So we would have to remain vigilant, but most of time we would just be waiting for time to elapse. Dull, but considerably more profitable than anything else I can see out there.

Here is the risk profile graph at the December expiration for a $15,000 portfolio calculated at a point where AAPL was trading about $653 (click to enlarge):

Here are the options positions that create the above risk profile graph (click to enlarge):

The portfolio consists of bullish call vertical spreads for each of four monthly expirations starting in December, and two bearish (because they are at considerably lower strike prices) put calendar spreads.

Of course, the big question everyone is probably asking is what happens if AAPL does fall by more than $60 in the eleven-week period. First of all, it is unlikely to happen. For the past 3½ years, there has never been a single six-month period when the stock was lower at the end of the period than at the beginning, in spite of its falling $100 at times during that period. Over the long run, the stock has consistently headed higher.

At this time, it has already fallen by over $50 from its high (over $47 in the last two weeks alone, so for it to fall by another $60 at this point would make it an extremely large drop by historical standards.

In the unlikely event that the past is not indicative of the future, and it does indeed fall by another $60, you can easily protect against big losses by buying more out-of-the-money lower-strike put calendar spreads with some extra cash that you have set aside (about $1200 should be sufficient). You would probably place those spreads if the stock falls another $30. With any luck, that will not happen and no adjustments would be required. If there is an occasional 3-month period when a loss comes about (I suspect it would be a small loss unless we experience an extreme October-1987-like general market meltdown), there should be four opportunities each year to make 15% gains, which should cover those losses.

The above positions are part of an actual portfolio into which I have personally placed a considerable amount of my retirement money.

I attempted to create a portfolio using SPY instead of AAPL so that I would be betting on the entire market rather than be subject to the vagaries of a single stock. Could I make a decent upside gain and still protect against the market falling 10% in about three months? Try as I might, I could not achieve 10% downside protection and create a portfolio that would make a reasonable gain if the stock were to stay flat or go up by any amount. I would invite anyone to let me know if you could do it within these parameters.

I also tried to duplicate these returns with several other stocks and came up empty as well. Even if I had found one where the numbers work, I didn't feel good enough about the company to warrant investing in it unless I felt as bullish about it as I do Apple.

Options are leveraged investments and should be approached with caution even if you are totally familiar with everything about them. I far prefer owning an options portfolio to merely owning the stock, because the only way you can make money with the stock if is it goes up. With the above options strategy, you can make a better-than-decent return even if the stock falls 10% in six weeks. That has to be safer than owning the stock.

Sometimes I think options get a bad rap on the risk front. People just don't seem to understand their potential, and the possibility that options might be more prudent than owning shares of stock.

Source: An Options Idea To Safely Finance Your Retirement Using Apple