Papale on Covered Calls

I just got back from Boy Scout Camp in the Northwoods of Wisconsin.  Was there with my 14 year old son Matt and 15 other boys and several other scout leaders.  Good stuff.  Camping.  Fishing.  Hot dogs on the open fire.  Sleeping in tents…  Rain.  Temps at night-45 degrees.  Rocks under my tent.  Cold showers.  15 boys who have not showered in 7 days.  It’s good to be home.

 Writing covered calls on stock can be an effective portfolio management strategy.  It not only can bring in extra income from holdings, but that income can serve to lower cost basis, effectively lowering downside risk.  Writing calls on stock can also be a profitable trading strategy.  As we discuss in the mentoring program, searching for stocks with high implied volatilities provides an opportunity to earn high yields.  While it can be tempting to jump in with both feet, remember that high yields generated due to high implied volatility don’t occur for no reason.  There is a perception of uncertainty in the underlying stock which is causing the options to get bid up.  These stocks have a higher likelihood to have large moves.  So when placing these types of trades, be sure to carefully evaluate not only the yield but also your trade management plan should the price of the stock fall dramatically.  Is it a stock you would like to own?  If not, you may want to establish a liquidation procedure across a range of scenarios.

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