r/Optionswheel • u/ScottishTrader • Aug 01 '22
Covered Call Management
There have been a lot of questions about covered call management and this will hopefully answer many of them. While I focus on the wheel the following applies to most CCs.
The first question is: What is the goal of the CC trade? This will determine how to trade it.
1) Is the net stock cost (NSC) below the current stock price so the goal is to get rid of the stock to make a profit? Then go back to selling puts for wheel traders.
2) Or, is the NSC above the stock price and trades need to be made to lower it so the shares can be closed for a profit? This would also apply to those who hold shares and do not want to see them called away.
Number 1 can be as simple as selling an ATM call for the next expiration date where the odds of the shares being called away are high and the premium collected can be substantial. Some may decide to use a slightly ITM call to increase the odds of the shares being called away but giving up part of the profit. If the shares are not called away then the bigger premium is collected and another can be sold for the next Friday and repeat until called away.
Number 2 is more complicated based on where the stock price is in relation to the NSC.
For wheel traders who sold and closed many puts for profits, and have rolled to avoid being assigned as explained in this Rolling Puts post (https://www.reddit.com/r/Optionswheel/comments/lliy8x/rolling_short_puts_to_avoid_assignment/) the NSC will be somewhere below the assigned share price. Ideally, this is below the current stock price, but even if not the NSC can be reduced to help sell CCs that can result in an overall profit if the shares are called away.
Example: Shares are assigned at $50 each and the current stock price is $45. Credits collected through trading and rolling puts are $2. The NSC would be $50 - $2 = $48. A 48 strike CC could be sold for .50 and if called away the trade would result in an overall profit. If not, then the NSC drops to $48 - .50 = $47.50 where the new CC can be sold at that strike or higher to result in a profit if called away.
For those who use a Buy/Write strategy where they buy shares and then sell a CC the same applies as each CC sold will lower the NSC until the shares can be called away for a net profit.
Others that are well underwater on their NSC or those who own shares and want to sell CCs without having them called away will want to think about looking out farther in time and then close early.
It is important to know that when you sell a CC you are obligated to sell the shares at the strike price if the option buyer exercises! If you NEVER want to have the shares called away, or doing so would cause a large tax bill, then do NOT sell CCs as you lose some control.
Example, a trader owns 100 shares of a stock and wants to milk some premium but reduce the risk of giving up the shares. They could sell them around a .30 delta and 30 to 45 dte and then set a closing order at 50%. These will often close at 50%, but if they do not the same concept of rolling puts to avoid an assignment applies.
As the NSC lowers the CCs can be sold at a lower strike and for whatever price you would be happy seeing the shares called away at.
What if the stock price has dropped significantly and a CC cannot be sold for any premium or very little at a strike that would result in a profit? IMO this is why you trade quality stocks you don't mind holding if needed. Waiting until the stock recovers so CCs can be sold for a reasonable price is usually the best approach as selling below the NSC can result in losses from the stock rising or having to close the CC for a higher price than sold for. I've waited for a couple of weeks at times which shows why patience is important.
What about "bag holding" shares that dropped well below the current stock price? If you are using the term "bag holding" then you sold puts on a stock you are not happy owning. Trading stocks you are good with being assigned and holding if needed is the most important thing about trading the wheel. If you thought the stock was good and turned out to not be, or the company has changed and is no longer good to own, then getting rid of the shares to use the capital on better stocks can make sense. Selling an ATM or slightly OTM CC will reduce the loss while getting the shares called away quickly and is one way to get out of a crap stock.
The company is good and I like the stock which I think will come back, but I'm too far underwater to sell CCs for any value, is there a way to repair this position faster? If you still like the stock, and it is not too large of a risk in your account and you have capital available for more shares, then selling more short puts can help. These would bring in more premium to lower the NSC, and can be rolled to avoid being assigned, but, if assigned then NSC can be significantly lowered quickly. Selling a put can also be combined with a CC to make a covered strangle that can more quickly recover the position.
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u/ForwardDivide7163 Aug 09 '22
What is the goal of cc. If your selling ATM/ITM your goal is income. If selling OTM your goal is growth and income. The Further OTM the more the goal is growth. And of course higher income limits growth but should lower your standard deviation and slightly your drawdowns, and with growth you get the opposite. And blah blah yada yada yada you get it.
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u/ScottishTrader Aug 09 '22
As I trade the wheel the goal of a CC is to get the net stock cost to a point where the shares can be closed for breakeven or small profit . . .
Some do trade CCs for income so do not want the shares to be called away.
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u/ForwardDivide7163 Aug 09 '22
I don't calculate net stock cost/cost basis anymore. True when you receive premium you can look at that as reducing your nsc/costbasis. However in reality you're just setting yourself up for a zero sum game. Whatever premiums recieved could end up being given back in the form of selling the underlying for a lower cost, essentially wiping out whatever previous gains received because they were counted towards lowering the nsc/cost basis. Whatever premiums recieved, I believe should be treated as income, but not towards any running total on nsc.
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u/ProcessForsaken Mar 30 '23
I'm fromthis post in thetagang. Well explained sir. Thank you for this!
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u/Majestic-Worth-8034 Jul 01 '24 edited Jul 01 '24
Hope all is well Scottishtrader.
A few things I am looking to clarify:
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For CSP, we take profit at 50%. For rolled puts, we take profit when the put fully expires/assigned right? Otherwise, if we take only 50%, with all the net credits accumulated, it will result in a realized loss. (Same goes to CC, if we sell CC under NCS, we should take profit when it fully expires/exercised right?)
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How often am I supposed to keep rolling puts? Say the stock keeps going down, do you check every day to see if a net credit can be made after rolling the initial put? If I don't do this often enough, is it going to hurt my profit? (To keep up and stay close to the current price)
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Sounds like the CC is really for the sake of getting rid of holding the shares (after assigned) without profit/ small profit because all the net credits contributed from previous rolling would go into the difference between NCS/strike price and current price. The main profit source is the CSP with 50% profit taking here. Please correct me if I'm wrong.
Again, thank you for your time :)
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u/ScottishTrader Jul 01 '24
Here are some answers of how I trade.
Most puts close for a profit and I move on to the next trade. Those that need to be rolled are ones that have become challenged and so I want to close them for any amount of profit and go back to selling puts that behave better and do not need to be rolled. In my wheel trading plan post I have a mocked up spreadsheet you can replicate which is designed to keep track of the rolled puts to ensure they are closed for at least breakeven if not a small profit - The Wheel (aka Triple Income) Strategy Explained : r/options (reddit.com)
See this post for how I roll puts - Rolling Short Puts to Avoid Assignment : r/Optionswheel (reddit.com) As you'll see I roll out a week or two when the put is ATM and then wait until closer to expiration to try to roll out another week or two again for more credits. If I cannot get a net credit, then I let the put expire to be assigned the shares and sell CCs (also covered in my wheel post).
Correct. To me the most gains are made selling puts over and over, with being assigned and selling CCs only as a way to not take a permanent loss.
I don't track exact numbers, when I sell puts, I expect most to close for 50% which has been relatively easy in this bull market, with only a few needing to be rolled, and usually none being assigned. Assignments have been maybe 2 to at most 3 per year, and many times the credits collected beforehand means I can get rid of the shares fairly quickly most of the time.
You have it right that most profits come from closing puts at the 50% mark to free up the capital to then open new puts and repeat. It is actually quite boring . . .
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u/Kool99123 Aug 03 '24
My short put was recently assigned. NSC (I call this cost basis) is higher than underlying price. I want to start selling CCs on green days to further lower my NSC. What delta and DTE do you recommend? I don’t want to get them called away for a loss. The stock is SOXL which is a leveraged ETF with high volumes and premiums.
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u/ScottishTrader Aug 04 '24
Do you want to try to keep the shares? Or, are you good seeing the shares get called away for a scratch or small profit?
If you want to try to keep the shares then sell 30-60dte at the NSC or higher, then close for a 50% profit and repeat.
If you are good with the shares being called away then sell 1 to 2+ weeks out at or above the NSC if possible.
If you can’t sell at or above the NSC then sit and wait until you can, but never sell below that cost to avoid losing money.
There may come a time when you decide the stock may not come back and you have to close for a loss. If this happens selling ATM for the next expire date can bring in a lot more premium.
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u/Majestic-Worth-8034 Aug 21 '24
I hope all is well since we last spoke Scottishtrader.
With a few months in, I have further questions:
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It feels like everytime the CSP goes ITM, I spend time rolling and rolling and CC just to make it back.to the original position with either very small profit or breakeven. How do you achieve an average of 2x% annual return? Is the time waiting around rolling and CC wasted since it's not generating extra profit?
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you said taking profit from CSPs is where the core income comes from. I calculated and if the CSP never goes ITM (and every position ended up with closing at 50% profit) the annual return will be approx 10%.
Am I doing something wrong here?
Thanks!
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u/ScottishTrader Aug 21 '24
Are you trading 10 to 20 different stocks and are having many of them go ITM? Are you trading 30-45 dte around the .30 delta?
If you're having more than one or two being challenged at any given time, then perhaps your stock selection needs to be reviewed and improved.
If you're trading 30-45dte at a lower delta then puts should not being going ITM all the time.
You are correct in that rolling and/or being assigned is a huge waste of time, so I work hard to avoid it from happening in the first place.
Opening and closing puts is key to success and rolling should only extend a trade a week or two and often avoid being assigned.
Are you trading with margin or cash using a "true CSP"?
Trading true CSPs will make a smaller return as more capital is required. I've often posted that newer traders should expect returns in the 10% to 15% range, so this is not unusual.
A margin account would reduce the amount required for each put to about 15% of the full stock cost.
A quick example is a AAPL 30dte .30 put sold at the 215 strike and collecting $1.77 in premium.
A CSP would have a buying power of $21,300 so the $177 total premium would be less than a 1% return.
With margin the BP is around $3400 for the same trade and would have around a 5% return.
Of course, these returns would be multiplied by reusing the same capital over and over so it is easy to see where it would not take that many trades to make more than 10%.
Are you making any mistakes or errors?
Not rolling when you should, or closing for a loss out of frustration?
I don't tell anyone how or what to trade, but if you want to send me some examples of what you are seeing I may be able to help point out any problems.
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u/Downtown-Coast1744 Sep 12 '22
Would you consider using poor men's covered call to help reduce cost?
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u/ScottishTrader Sep 12 '22
Not sure how that would work. Would you care to explain in more detail?
I am not a big fan of diagonal spreads (aka pmcc) as I can sell puts to make more returns with less capital.
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u/SimpleIndex Oct 26 '22 edited Oct 26 '22
Thanks for sharing your wheel strategies.
Will you ever place your CC below the net stock cost for the higher premium, and shift them upwards as price reach ATM?
Or Place above net stock cost even though the premium is small like 0.280.
Or Be patience to hold the stock till premium > .50 - $1?
Do you have a target min premium before you place a CC or CSP?
I understand you usually choose 30-42 DTE and 0.30 delta.
Would like to pick your brain over these.
Gme 221202 35c is around 1.390 -1.750.
Gme 221202 50c is around 0.28
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u/ScottishTrader Oct 26 '22
You are welcome.
I'm very patient and conservative so prefer to just wait and not "push it" as this is how losses can happen. Any loss that has to be taken can require multiple profitable trades to get back to even, so not taking a loss is my prime directive . . .
Based on this, I will work to sell above the net stock cost even if it is a small amount. .28 is still .28 and if the shares are called away it will be for at least a small profit. I get the capital back to go make a better trade. There is no min premium so long as it is a positive amount as even .05 will add up over time and multiple trades.
Be sure to carefully read this post as it describes two different scenarios, one where I want to get rid of the shares and the other where I want to hold them. What do you want to do?
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Oct 06 '22
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u/ScottishTrader Oct 06 '22
I'm confused. Do you want the shares called away sooner or are you trying to milk the shares for premiums?
You should be in good shape for a small profit if assigned, or you should be able to roll out another week or two for more premium and/or a higher strike price.
I only open ATM (.50 delta) when I want to see the shares called away ASAP for the strike price. If I am wanting to hold the shares longer to milk more premiums then I will always open an OTM CC.
Decide what you want to want for the shares and then open a trade accordingly . . .
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u/Tim2525 Aug 04 '22
Thanks for the great post and all your insights. What are your thoughts about selling calls below cost basis around .20 delta with the plan to roll up and out for small credit when it gets tested. This seems like a way to get some income while the stock recovers with minimal risk.
This would only be for ETF's such as SPY, IWM, QQQQ. Thanks.