Dr. Alan Ellman | Apr 15, 2018 03:01AM ET
Selling covered calls and cash-secured puts are the main strategies highlighted in our BCI community. Much of the information disseminated on the Blue Collar site, books and DVDs is based on member feedback, inquiries and comments. In September 2017, Marc sent me an email question about selling naked (without owning the underlying security before selling the option) out-of-the-money call options against shares with poor fundamentals and technicals. The rationale behind such a strategy is that cash would be generated from the option sale and share price would most likely not appreciate due to the lack of bullish fundamentals or technicals. Options would therefore expire worthless resulting in a near risk-free profit. I decided to publish Marc’s entire email inquiry and my subsequent responses because I feel this is such an important topic for our members to fully understand before deciding on which strategies are most appropriate for our families.
Marc’s email to Alan
At last yesterday I managed to open my first covered call positions, thanks to your detailed explanations given in your books and videos and your latest weekly stock report. Now I just sit, wait and read your book about exit strategies
Some question arose from thinking over after looking into another book from (author name deleted) about writing naked calls (book title deleted).
Briefly: the writer of the named book advertises for selling uncovered deep OTM calls in their book.
My question in this context:
Wouldn’t it be ok to write a deep OTM naked call on an underlying which has very bad fundamentals and technicals and set a stop buy order (let’s say at a level where the call rises to 100% or 200%) for the underlying just in case it is climbing suddenly?
Some kind of “late covering call writing” this would mean.
If it’s really true that 80% of all options expire worthless then this should be a very easy way of making money via the statistics:
starting with setting stop buy orders on different “bad” stocks, then writing lots of different deep OTM calls on these stocks, and simply wait.
If a stop buy is be executed and then trigger buying back the call (generating a loss on this call) and track/analyze the underlying to look what happened.
The advantage would be that the needed capital would be much less because you do not need to own the stock in most cases.
I am aware that you have to forget about any dividends in this case but maybe it is worth it.
You just would have to do the opposite in a screening process as you do: selecting stocks with poor fundamentals and technicals which even might be easier I could guess.
Something I must have got wrong because this would be actually too easy and “too good to be true”…
So please tell me: where is the hook in this probably quite bad idea?
Thanks for your great help and support.
Marc
Alan’s response to Marc
Hi Marc,
I never comment on other authors or their books, but I can make some general comments which you should find useful. Let me start with this: If any strategy appears too good to be true, it generally is.
General information:
Levels of trading approval
I may use your question and my responses in a future blog article as I view it as a very important topic.
Best regards,
Discussion
Selling naked call options is a high-risk strategy which may be appropriate for some sophisticated investors with high-risk tolerance. It is not appropriate for most retail investors and that comment is reflected in the higher level of trading approval (compared to more conservative option strategies) required by most brokerages.
Market tone
This week’s economic news of importance:
THE WEEK AHEAD
Mon April 16th
Tue April 17th
Wed April 18th
Thu April 19th
Fri April 20th
For the week, the S&P 500 moved up by 1.99% for a year-to-date return of (-) 0.65%%
Summary
IBD: Market in confirmed uptrend
GMI : 2/6- Sell signal since market close of March 23, 2018
BCI: Selling 2 in-the-money strikes for every 1 out-of-the-money strike for all new positions. Currently fully invested and slowly re-adjusting portfolio positions to more bullish positions. Global and US economies are a positive while political events are concerning. The Friday evening bombing in Syria was anticipated.
WHAT THE BROAD MARKET INDICATORS (S&P 500 AND VIX) ARE TELLING US
The 6-month charts point to a bearish sentiment. In the past six months, the S&P 500 was up 2% while the VIX (17.41) moved up by 78%. The VIX has calmed a bit from the prior week..
Wishing you much success,
Original post
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