Mike Scanlin

Mike Scanlin
Contributor since: 2011
Company: Born To Sell
This downgrade might explain it: http://bit.ly/1hxgQvb
Yes, those 3 links are to summaries of the reports (the summaries are easier to digest than the full reports). But each page has a downloadable link to the original source material.
And, yes, I WOULD call the Univ of Massachusetts a non-biased study (the other two are non-biased as well). I don't think you can get any more unbiased than a well respected university doing a 15-year academic study.
If the results of the 3 independent studies (that covered calls lower portfolio volatility and increase returns) disagree with your world view then why don't you produce a non-biased study that proves your point.
MCP is at 5.84 as I write this. The June 22nd, 5-strike calls are bid at 0.92. You could do a 17-day buy-write with a net debit of 4.92 (maybe 4.91 with limit orders), giving you an annualized return of 35% (0.08/4.92/17*365). Clearly you can't do this trade with 100 shares (due to commissions) but with a few thousand shares not a bad return for a beaten down stock that is unlikley to fall another 16% in 17 days.
Your comment makes sense for the time period you chose, but the following studies show that buy-writes have outperformed the SPY over the 15-year, 23-year, and 25-year span of their research (including intermediate shorter time frames):
Hewitt EnnisKnupp BXM 25-year review http://bit.ly/18ErcKx
Asset Consulting Group 23-year study http://bit.ly/Hfs3ii
Univ of Mass 15-year RUT study http://bit.ly/oNcEua
Yes, during rapidly rising markets covered calls are not optimal (you will still make money but you won't make as much as buy-and-hold). During other market conditions, covered calls do better than buy-and-hold. And, as the 3 studies above show, over a long period of time covered calls will lower portfolio volatility and increase returns.
Covered calls have been shown to lower portfolio volatility and increase returns at the same time. Summary of 23-year study here:
and a 15-year study here:
They look at the systematic process of writing at-the-money or slightly out-of-the-money calls each month.
Good suggestion, Jeff. Will add that in future versions. Thanks.
To maximize your profit you want the stock to finish exactly at the strike price you sold. But as long as it's above the net debit you will have some profit. And anything higher than the strike price and you will be capped on your profit.
If the stock finishes below the net debit then you can sell another option for the following period. The article I mentioned above, http://bit.ly/Lbldia, has some thoughts on how to do this.
For any underwater stock, there are a few repair choices. They are summarized here http://bit.ly/Lbldia
First decision is to ask yourself if you still like the stock you're holding, or has the fundamental situation changed? Also, is there another stock you'd rather own (highest and best use of capital)? Is the stock too big of a % of your portfolio?
Sometimes you just have to take a loss and move on. You won't win them all.
If you do still want to keep it then take a look at the repair strategies outlined in url mentioned above.
Hey John,
Thanks for catching the typo. I don't have a way to edit a posted article but duly noted (and sorry about that)!
The Net Debit is your break even price for the 2-part trade. It is the amount you paid for the stock minus the amount you received for the option. As long as the stock closes above the net debit on expiration day you've come out ahead.
Example: Buy AAPL at 569.48 and sell a 560 strike call option for 46.30. Your total cash outlay on day 1 of this trade is 523.35 per share.
If AAPL is at $530 on Aug 18 then you've made 6.65 per share (530 - 523.35), even though AAPL dropped 39.48 (569.48 - 530) during the time you owned it. The reason it works like that is because the intrinsic value and time premium of the option you sold provides some downside protection. You made more on the short option than you lost on the long stock.
It is possible to make money with covered calls even if the underlying stock drops while you own it; you just need the stock to stay above your net debit in order to have a profit.
Not really. Depends on your outlook for the underlying, and your return goals. If you go too far in the money you remove a lot of risk and won't make much reward. So you should go as deep as you can where you still make the return you are looking for.
Yes, you can accomplish a similar return with naked puts, assuming you are allowed to write naked puts in your account (some IRA accounts won't allow that). Also, depends on the margin requirements at your broker.
A cash secured naked put ties up the same amount of capital as a covered call. On the other hand, an unsecured naked put at a given strike ties up the same amount of margin dollars as a covered call at the same strike, if you are trading in a margin account. At the end of the day, naked puts and covered calls are the same trade so it comes down to personal preference and account privileges.
If you write calls on core stock positions that you don't want called away then, yes, write out of the money calls so you can capture that time premium and still leave yourself some upside potential on the underlying stock. That's one of the popular ways to use covered calls.
Selling covered calls (where you buy stock and sell a call option against it) is often an income-investor's game, and not one designed to profit from underlying stock appreciation. It's more defensive in nature, especially if you write in-the-money calls. The goal is to capture time premium, not stock appreciation (although, if you write out of the money call options you have some upside potential on the capital appreciation side, too).
Many times people buy stock specifically for the purpose of writing calls against it (a 'buy-write' trade) and in those cases they are happy to have the stock called away as that was usually their intention when they put the trade on. Yes, they didn't make as much as they could have if the stock shoots way up, but they captured the time premium, which is an amount they could calculate in advance and which they were happy with when they initiated the trade.
Rolling options is a good strategy to maximize time premium capture or to avoid having an assignment where there could be tax consequences caused by selling the underlying. Yes, when AAPL moves up 30 points in a week it is time to roll up and out (or at least up). I wouldn't go all the way to an at-the-money strike because as you say the stock is probably a bit overbought after this week. But if you now find yourself 40+ points in-the-money and not much time premium left then moving the strike up so that it's 15 or 20 points in-the-money and maybe out 1 month seems reasonable.
Selling naked puts at a given strike price is the same trade as selling a covered call at that strike price. There can be differences in margin requirements depending where you trade. And there may be 1 less commission if selling a naked put (if not assigned) than the equivalent covered call (but, again, with $1 commissions it may not be material). Lastly, some types of accounts (IRAs at some brokers, for example, or regular taxable accounts for less experienced account holders) do not allow selling of naked options so covered calls may be the only choice.
As for the choice of time period, selling naked puts that are multiple months out (or selling covered calls for the same time frame and at the same strike, which is the same trade) your time decay per day will be less than a series of shorter-term options you write (http://bit.ly/zqumWq). Since AAPL is one of the stocks that trades weekly options, investors who like to collect time premium most likely write a series of weekly covered calls (or naked puts) rather than a single longer-term option.
Jsr123, you are correct. The % was a mistake. I meant to say 'points'. Both the %s and the points are listed in the article and I simply made a mistake when talking about it. To be clear, as of the time of writing, the 5% and 10% dividend-like yields allowed for 26 and 46 points (5.4% and 9.5%) upside potential in the underlying by the Mar 17 expiration date. Thanks for the correction; sorry about the error.
Yes, I have >200 shares of AAPL. But if you're worried about commissions eating into single contract buy-writes or covered calls then trade at Interactive Brokers. $1 to buy stock. Less than $1 to sell a single option contract.
Yes, weeks like this week result in leaving some money on the table. But for the typical week, you will come out ahead. And, as mentioned in the article, the 5% and 10% dividend yields can be achieved while leaving yourself 26% upside potential over a month's time.
I use covered calls almost exclusively for my personal investing (90%+).
Because I'm not a trade recommendation service, nor managing other people's money, I don't publish annual returns. My target goal for my personal investing is 1.5% per month. I don't get there every month, but some months I do better than that, too. I'm happy with my results or I wouldn't still be doing it.
As for at-the-money, I sometimes do that with AAPL but almost all of my covered calls are in the money or deep in the money.
Excellent point. And this is why additional diligence after screening is required. Screeners identify candidates, not trade recommendations.
Hi Rick,
In the section on "Commissions" in the article I address this. First, you should trade at Interactive Brokers which charges around $1 to buy stock, $1 to sell options, and $0 for assignment. I don't think that $2 round-trip is too much commission for a $46 profit in 10 days. Second, if you're going to trade at a higher commission broker then you will want to trade more than 100 shares at a time.
Hi Joe,
That's possible but I don't really trade those spreads, so I don't know what the gotchas might be.
Nice analysis of the covered call strategy. As for the BIDU, yes, you could have picked a better example. If I were to do a BIDU trade I wouldn't consider a strike higher than 100, and even then I'd probably wait until after earnings come out on the 20th and then do the November cycle. You want to be DITM with that one, and probably not take earnings risk.
If you don't want to pay for the management of your covered calls then don't by a covered call fund; just do it yourself and save the management fees. There are many tools to help you, including www.borntosell.com (available here at the SeekingAlpha Investing Tools area, too)
I'm a fan of buying value stocks and the writing at the money calls on them. I also stay away from earnings when doing an income-oriented strategy like this. From the list you gave, those without earnings before the May expiration that return a decent amount, I see these:
GILD buy at 39.06, sell 39 strike. Net debit 37.89. 3% downside protection, 35% annualized return if flat (ARIF).
RIMM buy at 53.70, sell 52.50 strike. Net debit 51.06. 5% downside protection, 34% ARIF.
BBY buy at 30.17, sell 30 strike. Net debit 29.31. 3% downside protection, 29% ARIF.
Nice article.
AUY has earnings May 3, before the May options expire. I prefer to just write covered calls on GLD (no earnings risk, but still plenty of gold price risk/potential). Plus, they trade weeklys on GLD.
All of the stocks you mention except SVU have earnings before the May expiration. I would tend to go deep in the money if your goal was time premium capture. But it's risky with earnings in there. The LDK May 10s for example offer a 31% annualized return and a net-debit (break even) o 9.70 (for a buy-write at Friday's close). 14% downside protection.
For many people with passive call writing strategies, it's possible to double the dividend yield (or more) by writing out of the money calls. Sometimes you have to go out 3-6 months so that you can (1) leave yourself some upside potential (out of the money options), and (2) receive enough premium to covered the commissions involved.
For people with a 3-4% dividend yield portfolio it's a way to increase that to 6-8% without really thinking about it, and if you're more aggressive (write at the money options) then you can increase the yield even more, in exchange for giving up your upside (but for retirees, or people trying to live off bond interest, this is not a bad option -- they just want the monthly income).
If you like covered calls, there's a new covered call screener in the SeekingAlpha investment tools store:
There's a new tool in the Seeking Alpha store for covered calls:
I agree that the stats seem skewed if you start with high-yield dividend stocks and then look at call open interest. Your point about those stocks being attractive to income investors who are likely to write calls against them is valid. They should do the same study with non-dividend stocks and see if the call/put open interest is still a good predictor or future performance. That would tend to weed out the income-investor effect a bit.
covered call investment tools
IBM is a good stock to write covered calls on because it's pretty stable, and it pays a dividend (kind of small at 1.8%). Another good tech stock to do covered calls with is AAPL. More volatile, for sure, so maybe want to stick with in the money options, ie. do buy-writes purely for time premium capture -- and if it drops below the strike then you end up owning a quality stock at a discount to where you bought it. And if you're so inclined, you can sell weekly options against your AAPL position and get 52 dividends per year.
Good article, but if you're yield inclined, why not sell out of the money calls on them, too? From your Table 2 "Tilting towards current yield" you have BMY. With stock at 27 you can sell an at-the-money call (Nov 27) for 43 cents. Make 1.5% if stock is flat (24% annualized). Or go out a month to Dec and raise the strike to 28. Get 41 cents for it and make an annualized return of 11% if stock stays flat (better than div yield!), or 37% (annualized) if BMY > 28 by Dec 17.