The Installment Collar And How It Works

Sep. 20, 2013 2:34 PM ET
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Contributor Since 2011

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 Press); and "Options for Risk-Free Portfolios" and "Options for Swing Trading" (both Palgrave Macmillan). Thomsett also writes for and the Top Advisor Corner 

The collar can be expanded to create a truly creative variety. The traditional collar (own 100 shares, sell 1 covered call, and buy 1 put) can be turned into a long-term protective version:

buy 100 shares

  • sell one very short-term covered call, maximizing annualized income as the result of time decay
  • buy one long-term put (8-10 months)

This accomplishes a relatively high rate of return without the need to replace the put. The short call expires or is closed and then replaced as many times as you like. This should more than pay for the relatively rich long put, but on the installment plan. A one-month call could be opened and let expire up to 8-10 times over 8-10 months.

Meanwhile, you get the insurance protection against downside risk. If the stock price falls so that the long put goes in the money, its value increases one dollar for each point lost in the stock, limiting downside risk.

Because the put is paid for on the installment plan, it doesn't really matter what you paid for it or how time decay happens. The net outcome is a wash between long put and short call. This is a no-cost or low-cost way to get the insurance put but without having to turn over the collar frequently.

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