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Michael C. Thomsett is a widely published options author. His "Getting Started in Options" (Wiley, 9th edition) has sold over 300,000 copies. He also is author of "Options Trading for the Conservative Investor" and "The Options Trading Body of Knowledge" (both FT... More
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Michael C. Thomsett, author
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Thomsett Options
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Getting Started in Stock Investing and Trading
  • 4 Guidelines For Picking Stocks To Write Covered Calls 0 comments
    Mar 1, 2014 12:41 PM

    You can make a good double-digit return with covered calls (on an annualized basis). In fact, the shorter-term expirations yield more, so you're better off writing several smaller premium calls per year than one or two big-dollar but lower-return strikes.

    A common error is picking stocks based on premium of the call. The more volatile the stock, the more implied volatility in the option and herein lies the problem. If you pick stocks just tow rite covered calls, you may be taking on more risk than you actually want.

    If you are conservative, use four basic guidelines for picking solid, safer stocks for covered call writing:

    1. Revenues and net profit should be rising every year. When you see erratic operating results, net losses, or falling profits, you should be troubled. Look for stocks to buy in profitable and competitive corporations.

    2. The debt ratio should be small and either falling or staying steady. Avoid companies whose debt ratio is higher than the average of its competitors, especially if that ratio keeps rising every year. Total capitalization (long-term debt plus equity) should include a sensible mix between equity and long-term debt, but when the debt side starts climbing, it gets more and more difficult to get out of the hole.

    3. The P/E should be moderate. As a general rule, look for a P/E ratio between 10 and 25. Any P/E under 10 indicates lack of interest in the company; any P/E above 25 starts to get expensive. Also, don't just look at today's P/E. Compare high/low P/E levels over several years.

    4. Pay attention to dividend yield. If all else is equal, select the company with the higher dividend. The yield is the dividend per share divided by current price per share, so the yield you earn is based on the price when you buy. Also seek companies whose dividend has been increased every year for at least 10 years. These so-called "dividend achievers" tend to be the best-managed companies.

    To gain more perspective on insights to trading observations and specific strategies, I hope you will join me at ThomsettOptions.com where I publish many additional articles. I also enter a regular series of daily trades and updates. For new trades, I usually include a stock chart marked up with reversal and confirmation, and provide detailed explanations of my rationale. Link to the site at ThomsettOptions.com to learn more. You can take part in discussions among members on the site at the Members Forum.

    I also offer a monthly newsletter subscription if you are interested in a periodic update of news and information and a summary of performance in the virtual portfolio that I manage. Join at Newsletter - I look forward to having you as a subscriber. Please also check out my other site, ThomsettStocks.com

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