Covered Call Strategies For The Nimble Trader

Ken Trester — Mon, 24 Mar 2008 20:20:00 GMT

Many of you are losing big time in your stock portfolio -- but I have good news for you...

I am going to show you two option tactics that can help you generate more money (up to 12% more) from your stocks, prevent some losses, and help you sleep better during this market turmoil.

There are easy to implement and well worth your effort...

The methods that I outline below use covered calls to produce much larger returns on the stock you own. Selling covered calls is one of the most basic and also the safest of all option strategies. You can generate additional income from stocks that you own, and this income helps hedge against the risk of owning the stocks. But in order to write a covered calls, you must first own at least 100 shares of the underlying stock.

Naturally, in return for the possible larger gains you will take on more risk. If you are comfortable with that, and consider yourself a nimble trader, here are a couple twists you can apply:

"Naked" Calls

One twist is to write the call without owning 100 shares of the underlying stock. In other words, write an uncovered, or "naked," call. At the same time place a contingent buy order to purchase the stock at the strike price of the call. (The contingent buy order is a necessary ingredient and not all brokerages allow this type of trade; so be sure yours does before you try this.)

A stock theoretically can rise to infinity, which makes naked call writing a risky venture. If you are assigned a naked call you may be required to purchase the stock for substantially more than what your covered call allows you to sell it for. But by using a contingent buy order, should the stock rise above the strike price you will automatically purchase enough shares of the stock to make your written call "covered."

A contingent buy order requires that you have the funds readily available to purchase the stock if you are required to do so. So in that regard the contingent buy order operates like a margin account, with one vital difference. If necessary, you will have to pony up money to buy a stock that is moving in your direction, not against you.

This tactic also has another advantage. If the stock moves lower you will not have invested money in a declining stock. You will simply have pocketed the income from writing the call.

The second twist is to pay less for the shares of stock. You can do this by buying the stock on margin.

Using Leverage

Buying stock on margin involves taking a loan from your broker, then using the loan to purchase stock. Currently it is possible to borrow up to 50% of the cost of the stock. This in turn doubles your percentage return from writing covered calls against the stock.

For example, a covered call that generates a 6% return against the shares of a stock that are fully paid for would generate a 12% return against shares of a stock that were financed with a 50% margin. This return percentage is reduced by the interest rate of your margin loan.

Be aware, though, that buying stocks on margin is risky. Primarily, if the stock goes down, you are losing money at a much faster rate than you would had you paid full price for the shares. Not only are your stock shares losing value, but your stock shares serve as collateral for your margin loan, so the amount necessary to repay your loan is increasing.

And while your covered call may not be in danger of being assigned, you will be more likely to receive a margin call from your broker, which could obligate you to close the position at an inopportune time.

Contingent buy orders and buying stock on margin are aggressive ways to use covered call writing to your advantage. If you are a nimble trader they are worth looking into. But if you value safety first, stick to traditional covered call writing.

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If you you'd like to open a discounted subscription (only $49) to Ken Trester's Complete Option Report click here: http://www.completeoptions.com/COR-II-WEB-02-20-08.htm

Sorry Ken doesn't give you covered call recommendations but you'll get a rich assortment of recommendations. It is definately worth a look.

The Options Report : Naked Calls

Covered Call Strategies For The Nimble Trader

"Naked" Calls

Using Leverage

Special Offer: The Complete Option Report