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How to Get More Protection from Stock Price Declines

In a flat to bullish market, most call writers will sell an at-the-money call on the stock they own.  the rationale for selling an ATM call is that they have the highest premium in terms of time value.  Of course, the option seller can sell at any strike price.  What should the call seller do in a market driven by fear such as potential debt defaults, FED changes, financial chaos, etc.?  The smart call writer will change their strike price to get more downside protection.

Suppose you want to write a call on a stock that you are concerned about a potential price drop,  you can look to write an in-the-money call.  The stock is trading at $7.80 per share.  You can write the $7.50 call for $0.90.  This call has a $0.30 intrinsic value so you are getting $0.60 in time value. As long as the stock is above $7.50 at expiration you keep the $0.60 in time value and the $0.30 intrinsic value.  Now you have created a situation where you still make money if the stock declines by 3.85%.

Let’s try another example.  The stock is trading at $136.00 per share.  You can sell the 135 call for $10.25; the 130 for $13.15; the 125 for $16.40; the 120 for 20.05.  You can go down to the 120 call strike to produce a 13% downside protection.   Yet you still get a $4.05 time value premium that is almost a 3% return.  Now you have created a situation where you still make money if the stock declines 13%.

Considering an average volatility, this is a great way to protect yourself for an anticipated price downturn.   While selling ITM calls does not usually realize a return as high as selling ATM calls, it does have the benefit of creating more downside protection for the stock price to fall and still return a profit.  You should only sell ITM calls if you are willing to let the stock be called away.

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Why Sell Covered Calls?

Sellers of covered calls seek two objectives: additional income from their stock portfolio and protection from a market decline in the price of their stocks.  The call premium helps the option writer to achieve these goals.  With the covered call strategy, you can use stocks you already own or you can purchase new shares to sell covered calls on.  In either case, you will not be overly concerned about the the price movement of your stocks over a period of time.  However, you will only write covered calls on stocks you already own.
 
We can apply this call writing strategy to dividend paying stocks.  You will be getting two sources of income: the dividends and the premium you received from selling the calls.  In addition, there is potential for a third source of income if the stock were to increase in price.  If we were to allow the stock to be called away, we would receive the strike price in addition to the premium and dividends.  This is an outstanding scenario where you can potentially receive three sources of income from one investment!

However, the call writer does not have to remain obligated to deliver the stock.  The writer can terminate the obligation if it has not been exercised by purchasing to close an identical option at current premium price.  Also, if the option is exercised, you do not have to deliver the original stock as you can purchase new shares to fulfill your delivery obligation.

When you write a covered call, you still own the stock and can receive all dividends paid before the options expire.  When you sell options, you begin with an immediate profit rather than an uncertain potential gain.  The most you can make is the premium received and the price of the strike minus your cost of the purchase of stock.

There are always opportunities for investors to use options are part of their total investing plan.  With careful stock selection and monitoring of your position, selling options can:

    • Boost annual income by 15 percent or more;
    • Be used for tax benefits and low costs;
    • Offer a variety of choices such as the underlying stock, strike prices and time periods.

The best rule: never buy options, only sell them!  Buying options is speculation while selling options is investing.

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Covered Call Results in 2017 – You Can Make $2000 per Month

The year 2017 was another great year of total returns and monthly income. We had a call yield of 21% for our portfolio. You can’t get this level of yield from a dividend payment.

In terms of total return as tracked in the monthly spreadsheets, the average across all positions was 37% during 2017. In the past year ending 12/15, the S&P 500 only returned 20%. Therefore, we almost doubled the S&P while capturing significant alpha return. The average monthly income across our open positions was $132 for each position with 100 stock shares. If you own all positions (100 shares) you would capture $953 dollars of income per month. And if you double up you can capture $2,000 per month. You get it – $4,000 per month is achievable.

We had no losing positions in our perpetual call portfolio in 2017. We had 8 of 9 positions with returns greater than 20% and all but one with returns greater than 20% of the S&P 500 in 2017.

The table below shows the results for each perpetual covered call position during 2017. This table is the same information as displayed in the monthly tables for each position (based on owning 100 shares of stock and selling one covered call each month). This is for portfolio tracking only as subscribers will own more than 100 shares and sell like size amount of call options for income each month.

Income Opportunity for 40% Option Trade

As income investors, we seek to create consistent monthly income by selling options to collect monthly premiums. This has been successful for our investors for years. Option selling offers another method to diversify investing strategies beyond traditional dividend investing. We have combined technical stock events with our strategy to identify high returns option selling opportunities. This income trade will generate a return of 40% annualized.

Stock: STMicroelectronics N.V., (STM) together with its subsidiaries, designs, develops, manufactures, and markets semiconductor products, and subsystems and modules worldwide. STM has strengthened its ecosystem through a Partner Program that connects customers with qualified technical specialists capable of strategically supporting their projects.

We have identified a bullish “Continuation Diamond” chart pattern. This bullish signal indicates that the stock price may rise from the close of $17.44 to the range of $20. The pattern formed over 114 days which is roughly the period of time in which the target price range may be achieved, according to standard principles of technical analysis.

STMicroelectronics has a current support price of 17.04 and a resistance level of 17.46 that has been broken this week.

A Continuation Diamond (Bullish) is considered a bullish signal, indicating that the current uptrend may continue. Prices create higher highs and lower lows in a broadening pattern, then the trading range gradually narrows after the highs peak and the lows start trending upward. The technical event occurs when prices break upward out of the diamond formation to continue the prior uptrend, which confirms the pattern.

Monthly Income Option Trade

Strategy: We have an opportunity to sell options for income with STM as the stock should trade higher in the coming weeks. I recommend to place your trade and exit when you have locked in profits due to the stock price moving higher. Our goal here is to make income short term so we can exit and compound capital into another trade.

For medium risk option trade, look to sell an October 2017 17.5 PUT for about $0.80. This creates a return of 4.8% with 6 weeks to expiration.

For a conservative trade, you can setup a covered call trade. You can purchase 100 shares of STM and sell an October 17.5 CALL option for about $0.80.

We continue to identify winning option trades to generate income and to exit early as the stock bullish patterns moves prices higher.

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Great Income Trade Opportunity in HEES

As income investors, we seek to create consistent monthly income by selling options to collect monthly premiums. This has been successful for our investors for years. Option selling offers another method to diversify investing strategies beyond traditional dividend investing. We have combined technical stock events with our strategy to identify high returns option selling opportunities. This income trade will generate a return above 8% using the forward month options.

Stock: H&E Equipment Services, Inc. (HEES) operates as an integrated equipment services company. The company rents, sells, and provides parts and service support for hi-lift or aerial work platform equipment, cranes, earthmoving equipment, and industrial lift trucks. It offers heavy construction and industrial equipment for rent on a daily, weekly, and monthly basis

A “Double Bottom” chart pattern has been detected on H&E Equipment Services Inc (HEES). This bullish signal indicates that the price may rise from the close of 21.90 to the range of 25. The pattern formed over 46 days which is roughly the period of time in which the target price range may be achieved. H&E Equipment Services Inc has a current support price of 19.89.

Strategy: We want to sell a covered call on HEES using the August 2017 22.5 Call. For each 100 shares of HEES stock you buy, sell one August 22.5 covered call option for a $20.70 ($21.90 – $1.20) debit or better. That’s potentially a 8.7% assigned return with a 5.8% downside protection. If you want more downside protection, you can purchase an August 17.5 PUT for less than $0.25 per option.

For PUT writers wanting to lower their cost of entering this position. You can sell a August 22.5 PUT option for $2.00. That’s a potential return of return of 8.9%.

Investors should consider taking profits early as the stock price moves higher toward the $25 target price and exit if there is a pull back below support levels..

This is a higher risk trade than we normally place in the Monthly Income Report. However, this is a nice setup with a positive merger announcement, positive technical confirmation and increased premium from selling options for income.

H&E Equipment Services to Acquire Neff Corporation to Create Leading Equipment Rental Company

The acquisition will nearly double the number of H&E branches, from 78 to 147, within H&E’s existing footprint in the strategically important Gulf Coast, Mid-Atlantic, Southeast and West Coast regions. Both H&E’s and Neff’s customers will benefit from best-in-class practices and a wide range of equipment in more locations.

H&E estimates the acquisition will create $25 to $30 million of synergies annually related to corporate overhead, systems and operational efficiencies, as well as scale benefits for equipment purchases.

The acquisition of Neff

is expected to generate in excess of $800 million of gross tax assets for H&E arising from a step-up in the basis of certain of Neff’s assets.

Private investment funds managed by Wayzata Investment Partners LLC holding approximately 62.7% of the outstanding common shares of Neff have executed a written consent to approve the transaction, thereby providing the required stockholder approval for the transaction.

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How to Generate a 10% Return in 45 Days

In our Monthly Income Report, we look for opportunities to utilize option selling to generate income. While we focus on selling cash-secured puts and covered calls on high quality stocks, we sometimes identify high return trades. We like to have 2 or more stock or company events leading to positive confirmation that the stock will continue its trend. This month we have identified a stock with a bullish technical indicator that has potential to generate a 10% return in only 45 days.

Stock: Alkermes plc (ALKS) is a biopharmaceutical company. The Company is engaged in the researching, developing and commercializing pharmaceutical products that are designed to address medical needs of patients in therapeutic areas. The Company has a portfolio of marketed drug products and a clinical pipeline of products that address central nervous system (CNS) disorders, such as schizophrenia, depression, addiction and multiple sclerosis (MS).

Alkermes just announced positive preliminary top line results from ENLIGHTEN-1, the first of two key phase 3 studies in the ENLIGHTEN clinical development program for ALKS 3831, an investigational, novel, once-daily, oral atypical antipsychotic drug candidate for the treatment of schizophrenia. ENLIGHTEN-1 was a multinational, double-blind, randomized, phase 3 study that evaluated the antipsychotic efficacy, safety and tolerability of ALKS 3831 compared to placebo over four weeks in 403 patients experiencing an acute exacerbation of schizophrenia. The study also included a comparator arm of olanzapine, an established atypical antipsychotic agent with proven efficacy.

ALKS will announce earnings on July 27 but should be positive on this news.

This stock has formed a pattern called Flag (Bullish), providing a target price for the short-term in the range of 61.50 to 62.30 (see chart below). We think the stock can hit the target price within 6 weeks or less. The price recently crossed above its moving average signaling a new uptrend has been established. While we like the upside potential in ALKS, we want to protect the downside against market changes.

Technical Setup on Alkermes ALKS

Strategy: We want to sell a covered call on Alkermes using the August 2017 60 Call. For each 100 shares of ALKS stock you buy, sell one August 60 covered call option for a $54.50 ($58.70 – $4.20) debit or better. That’s potentially a 10.0% assigned return with a 7% downside protection. If you want more downside protection, you can purchase an August 55 PUT for less than $2.00 per option.

This is a higher risk trade than we normally place in the Monthly Income Report. However, this is a nice setup with a positive news announcement, positive technical confirmation and increased premium from selling options for income.

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How to Beat the Market in 2017

As we start a new year, every investor should ask themselves this question: Did you beat the market in 2016? According to an article on CNBC “Most investors didn’t come close to beating the S&P 500”. The rationale is discussed as:

Bad market timing and poor stock picking kept most investors from fully reaping the gains of the bull market last year. “The average investor held too much in cash, was too concentrated in stocks that didn’t perform well and avoided financial stocks that rallied last year,” said Hart Lambur, co-founder and CEO of Openfolio, a social network with more than 70,000 members who share their investment portfolios.

The average investor on Openfolio had a gain of roughly 5 percent in 2016. That lagged the nearly 12 percent total return of the S&P 500, which includes dividends, by more than 7 percentage points last year. 

Part of the lag can be attributed to investors having a diversified portfolio. That is a good thing because it smooths volatility and can improve returns over long periods. Yet when you consider that a balanced portfolio of 60 percent U.S. stocks and 40 percent U.S. bonds would have generated roughly 7 percent last year, Openfolio investors still fall short by 2 percentage points.”

How can investors beat the market?

Our newsletter beat the S&P 500 handedly in 2016 with a 27.8% return! In reviewing the results we obtained from the perpetual covered call strategy during the past year. In terms of total return as tracked in the monthly spreadsheets, the average across all positions was 27.8% during 2016. In the past year ending 12/17, the S&P 500 only returned 12.75% and the DJIA returned 16.8%. Therefore, we more than doubled the S&P and beat the Dow Jones significantly while generated significantly more income. The average monthly income across our open positions was $152 for each position with 100 stock shares! AND this includes the cost of having a long put to protect against downside risk on each position.

The average cost of 100 shares across all positions was $5,278 which generated an average of $152 of income each month. A $50K portfolio will generate an average of $1500 per month while a $100K portfolio creates $3,000 every month! This is proof our income strategy works. We target a 2-3% return per month on average.

Join our investing community and beat the market in 2017!

Compounding Returns with Option Selling

You have undoubtedly heard it said before – compounding returns is the eighth wonder of the world or man’s greatest invention. But to an investor it is a great wealth builder. While many income investors think of compounding dividends, this can also be accomplished by option sellers by compounding the option premium received by selling either put or call options. I think about the premium received as soon as the option is sold can be readily reinvested or compounded immediately.

Here is the formal definition from Investopedia:

Compound interest is interest calculated on the initial principal and also on the accumulated interest of previous periods of a deposit or loan. Compound interest can be thought of as “interest on interest,” and will make a deposit or loan grow at a faster rate than simple interest, which is interest calculated only on the principal amount. The rate at which compound interest accrues depends on the frequency of compounding; the higher the number of compounding periods, the greater the compound interest.

The “Rule of 72” is an easy way to calculate how long it will take to double you money based on compounding returns. For example, an investor has a dividend stock paying an annual 5% dividend. Using the rule of 72, dividing 72 by 5 indicates the investor will double his money in 14.4 years. Not bad for a dividend producing asset. Now, let’s compare this to selling options. If you make 2% per month on average, you can double you money in 36 months (72/2=36). This is only 3 years compared to 14.4 years for the 5% dividend stock! Which investment do you want to pursue?

This is the theory behind our strategy to sell puts and covered calls at get rich investments. We can generate consistent income on a monthly basis that will provide us the opportunity to compound our money and returns at a faster pace than the buy and hold dividend investing.

Learn how to compound your money and the best stocks to use in this strategy to double your money.

Get started today with the Monthly Income Report.

Covered Call Results for 2015

As we close out 2015, we are reviewing the results we obtained from the perpetual covered call strategy during the past year. In terms of total return as tracked in the monthly spreadsheets, the average across all positions was 44.2% during 2015. In the past year ending 12/17, the S&P 500 only returned 0.73% and the DJIA returned 0.76%. Therefore, we beat the market significantly and generated significantly more income. The average monthly income across our open positions was $145 for each position with 100 stock shares!

The table below shows the results for each perpetual covered call position during 2015. This table is the same information as displayed in the monthly tables for each position (based on owning 100 shares of stock and selling one covered call each month). Note Kroger stock split during the year as shown in the table.

Compared to the market averages, all of our perpetual covered call positions finished above the market. We had 2 positions with returns above 50% – HAS and CVS. Interestingly, the average price increase was only 0.4%! This clearly shows we make our returns based on monthly premiums and dividends. This indicates this strategy can make money in a side and downward trending market.

As we start 2016, we will share a new list of perpetual covered call trades. We will add to these as the year proceeds forward with new trades based on what happens in the market.

If you have any open puts, they will need to be closed out. We will be starting with new protective puts for each position we have open and start throughout the year. To lower the cost, we will be buying puts that are long-dated for Jan 2017. This will provide protection throughout the year and allow investors to allocate the put cost over more months.

 

 

 

Covered Call of the Month – 26% Annualized Return on this Stock

You have heard all of the old adages about investing such as there is no free lunch and many more.  In general, these saying suggest that higher returns will always require higher risk of some type.  Still, money managers and hedge funds continue to attempt to ink out higher returns on a risk adjusted basis through a numerous variety of customized approaches to stock selection, asset allocation, hedging strategies and so on.  For them, this is the holy grail that generates higher returns than their competitors or market averages.  In my opinion, investors can simplify this process through covered call writing.

Covered call writing consists of selling call options on stock whose shares you own.  This strategy places the investor somewhere between stock ownership and fixed income investments.  While the investor owns shares, they also create income from the premium received from selling call options on those shares.  While this strategy will not produce wealth overnight, it does produce a steady stream of income while owning shares of stock.  This strategy is designed to produce an annual return in the area of 15% on conservative stocks and higher as investors write calls on higher volatility stocks.

Covered Call of the Month

Celgene (NASDAQ: CELG) ended the last trading session at $95.02. So far the stock has hit a 52-week low of $66.85 and 52-week high of $96.15. CELG has had an S&P Capital IQ 5 STARS (out of 5) ranking since 10/23/2008. On 1/13/2014 S&P Capital IQ equity analysts set a 12-Month price target of $104.00 for the stock. Celgene stock has been showing support around $93.83 and resistance in the $95.89 range.

For a hedged play on this stock, consider a Nov ’14 covered call with a 95 sold call for a net debit in the $89.77 area. The strategy has an 81 day duration, provides 5.53% downside protection and a 5.83% assigned return rate for a 26.25% annualized return rate (for comparison purposes only). This strategy has a 4 Key (out of 5) Low Relative Risk ranking.  

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