My Covered Call Strategy - Comprehensive Guide / Tutorial For Writing Covered Calls

smartcat

Active Member
#11
Re: My Covered Call Strategy - Comprehensive Guide / Tutorial For Writing Covered Cal

Smart cat
Thanks lot for such valuable thread , want to know the procedure when price goes upwards , how to save myself in that situation, what is the correct strike price to be shorted etc. , waiting for your next move.:)
Will make a post on 27th of this month (start of May 2012 expiry) - that way, we'll have realistic prices of stock options for different strike prices. It would then be easier for me to explain my strategy.

But quickly - when prices go upwards, I'll book my losses when the stock price reaches the strike price. If this happens early in the series, the losses will be fairly large. But then, the option premium of the next available strike price to would have gone up significantly. So we short/write/sell the call for the next available strike price to bring down our losses. We continue writing at higher strike prices if stock keeps going up. If the stock continues to rise all the way till the end of the expiry (very unlikely - because we pick boring dull stocks), we calculate our net losses from writing calls and recover the money from the shares that we own by selling a part of our holdings. Second scenario - If stock price reaches the strike price towards the end of the series, the losses will be small. So we just book the small loss and live to fight another day. It is not recommended to write a higher strike call at the end of the series because premium income will be low - not worth the trouble. Anyway, if your covered call portfolio size is large, you can write calls against multiple stocks (diversification). So losses in one stock will be more than made up by gains in others.

I will explain the above part in more detail later - because lots of tweaks can be done to enhance returns or reduce option losses as stock prices move up and down within a month.
 
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mmca2006

Active Member
#12
Re: My Covered Call Strategy - Comprehensive Guide / Tutorial For Writing Covered Cal

Will make a post on 27th of this month (start of May 2012 expiry) - that way, we'll have realistic prices of stock options for different strike prices. It would then be easier for me to explain my strategy.

But quickly - when prices go upwards, I'll book my losses when the stock price reaches the strike price. If this happens early in the series, the losses will be fairly large. But then, the option premium of the next available strike price to would have gone up significantly. So we short/write/sell the call for the next available strike price to bring down our losses. We continue writing at higher strike prices if stock keeps going up. If the stock continues to rise all the way till the end of the expiry (very unlikely - because we pick boring dull stocks), we calculate our net losses from writing calls and recover the money from the shares that we own by selling a part of our holdings. Second scenario - If stock price reaches the strike price towards the end of the series, the losses will be small. So we just book the small loss and live to fight another day. It is not recommended to write a higher strike call at the end of the series because premium income will be low - not worth the trouble. Anyway, if your covered call portfolio size is large, you can write calls against multiple stocks (diversification). So losses in one stock will be more than made up by gains in others.

I will explain the above part in more detail later - because lots of tweaks can be done to enhance returns or reduce option losses as stock prices move up and down within a month.
Shall be obliged and really want to learn from the tweaks. However you do not like SBI for covered call but my portfolio holding is SBI :annoyed:because of its fundamental, and I never think to switch to other stock but on the other hand I also want to earn some extra penny from such covered call , do you have any suggestion/tweaks so that it can be done with SBI, main problem with SBI is that movement is very fast and I have to switch fast to higher strike price .
 

smartcat

Active Member
#13
Re: My Covered Call Strategy - Comprehensive Guide / Tutorial For Writing Covered Cal

Shall be obliged and really want to learn from the tweaks. However you do not like SBI for covered call but my portfolio holding is SBI :annoyed:because of its fundamental, and I never think to switch to other stock but on the other hand I also want to earn some extra penny from such covered call , do you have any suggestion/tweaks so that it can be done with SBI, main problem with SBI is that movement is very fast and I have to switch fast to higher strike price .
Mid expiry tweaks (rolling up and rolling down options) won't work that well with stocks like SBI. If you plan to earn Rs. 5,000 per month, you might end up earning Rs. 10,000 in one month (when SBI goes down a lot) or losing Rs. 5,000 in another month (when SBI goes up a lot). But the whole purpose of a covered call strategy is to earn fairly predictable monthly income - so writing SBI call option is not such a great idea.

But I have a solution - see, there is no rule in our Constitution that says that you should write SBI calls only if you own SBI stock. Nothing prevents you from owning 1 Lot of SBI stocks and writing 1 Lot of HDFC Bank or Punjab National Bank call. Losses on HDFC Bank/PNB call need to be recovered by selling SBI stock - logic being that if HDFC Bank/PNB goes up a bit, SBI goes up a lot.

The above strategy might not be perfect and can result in unpredictable returns sometimes - but if you want to earn income from your SBI holdings, the above strategy is the best.
 

mmca2006

Active Member
#14
Re: My Covered Call Strategy - Comprehensive Guide / Tutorial For Writing Covered Cal

Mid expiry tweaks (rolling up and rolling down options) won't work that well with stocks like SBI. If you plan to earn Rs. 5,000 per month, you might end up earning Rs. 10,000 in one month (when SBI goes down a lot) or losing Rs. 5,000 in another month (when SBI goes up a lot). But the whole purpose of a covered call strategy is to earn fairly predictable monthly income - so writing SBI call option is not such a great idea.

But I have a solution - see, there is no rule in our Constitution that says that you should write SBI calls only if you own SBI stock. Nothing prevents you from owning 1 Lot of SBI stocks and writing 1 Lot of HDFC Bank or Punjab National Bank call. Losses on HDFC Bank/PNB call need to be recovered by selling SBI stock - logic being that if HDFC Bank/PNB goes up a bit, SBI goes up a lot.

The above strategy might not be perfect and can result in unpredictable returns sometimes - but if you want to earn income from your SBI holdings, the above strategy is the best.
Thanks lot, will check it with HDFC bank though sector is different (not Public sector) , probably PNB ( same public sector) will give better result but I think PNB calls are not so liquid, i.e difference between bid and ask is noticeable which may be a cause of concern. :)
 

psvaja

Active Member
#15
Re: My Covered Call Strategy - Comprehensive Guide / Tutorial For Writing Covered Cal

Dear Smartcat,

Eagarly waiting for your next post...
 
#16
Re: My Covered Call Strategy - Comprehensive Guide / Tutorial For Writing Covered Cal

Dear Smartcat,

Nice post - please share more on this strategy...thanks
 

rkkarnani

Well-Known Member
#17
Re: My Covered Call Strategy - Comprehensive Guide / Tutorial For Writing Covered Cal

This write up was in my Archieves of Options Articles..... seems relevant here ,hence posting... collected from Net a few years back: (Have a few more on this Subject and may Post soon.)

How To Make Money Writing Covered Calls

To make money writing covered calls, you first have to understand what you're really doing from a larger perspective in the context of the stock market itself, not just the option market. Many investors are attracted by the high income yields available in theory, only to find in practice that they do not achieve such high returns, or in fact even lose money from this supposedly "safe" strategy.

It's been said that while covered call writing appears to offer the potential for high income yields, what the strategy really does is merely smooth out portfolio returns, at the expense of lowering the total net return. Those who claim this offer the following explanation: the big money is made in the stock market by staying fully invested and exposed to both all the downside risk and all the upside potential, and since stocks always go up in the long run, you'll reduce your long-term returns by selling covered calls because you'll miss out on the big gains from the times they do go up as your stocks get called away before you share in the gains. Although when stocks go down you will moderate the losses slightly by the income you receive from selling covered calls.

The fallacy in this argument lies in the assumption that, like buy-and-hold stock investors, covered call option writers always stay fully invested in the underlying stocks. Successful covered call writers, whose portfolio results dwarf the returns achieved by buy-and-holders, do nothing of the sort. They buy stocks only at the right time, and they know how to get out of losers or hedge them.

To make money writing covered calls, you should not only be careful about stock selection, but also about timing. Remember, with option trading timing isn't everything, it's the only thing! Timing is certainly more important than any strategy.



Select stocks that are either in obvious technical uptrends, or at least in a flat trading range pattern coupled with a strong fundamental business outlook for the company.

Time your entry by purchasing the stocks only after a pullback (short-term decline) in price! Yes, by being this patient you certainly will miss out on some stocks that run away from you for awhile. But that is the exception, not the rule. Most of the time by chasing stocks you're setting yourself up for disappointment, and increasing your risk. This includes chasing back into stocks that get called away. Let it go, and move on to a different stock for now.

Do not sell the covered call option at the same time as you purchase the stock! If you do so you are relying on the strategy itself to make you money. It will not. No strategy is so good that it can work with poor, or no, timing.

If you cannot make a good stock market trade in terms of timing your entry, you will indeed prove the skeptics correct as described above.

Covered call writing is by definition not solely an option trading strategy. It is a combination of both stock trading and option trading. This is the all-important context I alluded to earlier. Covered call writing will enhance your stock market returns if done properly. But it will limit them if done improperly.

If you are not comfortable timing the market then you should not be trading options at all. You'd do better to just buy and hold stocks. You cannot consistently make money writing covered calls without timing the market. But seriously it isn't all that difficult. It's just a four-step process to make money selling covered calls:

1. WAIT for a pullback in the stock price.

2. Buy the stock.

3. WAIT for the next rally in the stock price.

4. Sell your covered calls.

The difference in waiting for the pullback to get a lower buy price may seem small for each individual trade, but it all adds up to a big edge for you in the market if you do it consistently.

Similarly, the difference in waiting for the next rally to get a higher option price will add up for you. Yes, sometimes you will miss out on juicy option prices by waiting, because the stock will pull back again before you sell your calls, and of course the option premiums decay with time. But again, that is the exception -- most of the stocks you select are in uptrends or eventually will be, and you've reduced the odds of a pullback hurting you since you already waited for one before you bought the stock (step 1).

Most investors who don't make money writing covered calls, or who never achieve the covered call writing results they had hoped for, are failing simply because they consistently skip both steps 1 and 3!
But not you, because now you know how to win! :)
 
#18
Re: My Covered Call Strategy - Comprehensive Guide / Tutorial For Writing Covered Cal

Nice posts..thanks 4 the detailed setup..

I have a doubt though.. pardon me if its elementary as I have never written CCs on stocks.

1. I can always calculate the SV of the stock, but I do not know any resource which will provide IV details for individual stocks, unlike Nifty which has the VIX.

2. I believe in timing volatility(IV&SV). The ideal conditions for writing CCs seem to be High IV with constant SV. How do I determine IV data for say SBI?

3. Hedging will be difficult if IV is very high as Puts will be very expensive. I agree that you need to time CCs both directionally but youwill also need IV data

4. Basically High Volatilty is not a issue( even good if you can time your hedges) but lack of IV data is a huge hurdle. Can somebody give a good source for stock IV data...

5. Can this strategy be used on Nifty Index with same profitabilty as on stocks. Index should have lower volatilty but its still okay.

Thanks for help..
 

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