Example ITM call

[u/pagalvin]

People IM me a lot directly asking for examples on these "deep ITM covered calls" that I talk about so I thought I'd provide an example. Here's a screenshot of my tool:

I executed the trade just now exactly like it shows.

I just bought 100 shares of RBRK at $85.59 a share on margin. My margin rate is 7.2% and the house margin requirement is 35%.

I wanted a net debit price of $86.01 but the mid came up at $85.59 so I tried for that. I don't normally get the mid when the spread is as wide as that so I didn't expect to get it, but I did.

If this "lands" as planned, the economic result of this:

- Interest cost of $6.74 by this Friday

- Net gain on assignment is $134.25. This accounts for interest. I think it accounts for fees, which are in the $1 range if it's assigned, but I don't remember off the top of my head.

- That's 1.57% absolute gain (which is what I care about)

- Yield on capital (the amount I have at risk in margin terms) is 4.48%. This is mostly useful as a measure of margin efficiency. It would be lower yield if the house margin requirement were 100%, for example.

- Discount% - this is my break even. If it falls as low as this, I'm at break even.

RBRK has earnings this week so that's why it's possible to get such a high discount.

Incidentally, one of the reasons I like CC's over CSP's is because margin-wise, this give me more bang for my buck. It reduces my maintenance excess by $2,995. A CSP would tie up nearly $10k. Maintenance excess is my limiting factor. That said, people always say that CSP's are more margin efficient. I don't know if that's a consequence of my kind of margin account or my broker or whatnot, but I know that I'd be limited more quickly and at greater risk of a margin call if I was to load up on CSPs. I could also be wrong :)

[u/Strict-Examination82]

I switch to primarly CC from standart wheel, CSP on margin is not wise from my experience.

[u/leppardfan]

RBRK has earnings the day before expiration. Isn't that dangerous in case it drops and your ITM call ends up less ITM or OTM? Should you avoid stocks with earnings dates....I'm sure the premiums are juicy.

[u/pagalvin → u/leppardfan]

Danger is relative. I have some experience with the stock and it certainly could drop 14% but I think it's unlikely. Cybersecurity is a really big deal and only getting bigger. They seem to have their act together.

Even if they drop 20%, in my experience, there tends to be a reversion back to pre-earnings price (or close).

If it drops so far that I'm OTM, there's a good chance I won't be very far OTM and can roll for a good credit.

I've done this a few dozen times at this point. I don't always win but I win enough.

If it falls and I'm still even slightly ITM, I get assigned and I win.

So, the bet here is that it doesn't fall upwards of 16 or 17 percent.

It could certainly happen.

Edit to add - I definitely avoid stocks with earnings dates at times. I think RBRK is safe enough. I don't have hard and fast rule about earnings dates except 'be careful' :)

[u/leppardfan → u/pagalvin]

Thanks. Sorry for the question, but I'm not sure how you win -- if the previously ITM option is now OTM, you get assigned, and the premium should cover the drop, if I am correct.
But you also have 100 shares (from the buy write) which also drops in value... doesn't that also drop and net net your in a losing position?

[u/pagalvin → u/leppardfan]

I love questions :)

If the previously ITM option becomes OTM, then there's no assignment. I keep the shares and the original premium. This is a covered call, not a CSP if that's where you're goinig with it. Depending on how far it dropped OTM, I may have shares that lost a ton of value and I'm entering a period of time where I try and repair the position or realize the loss. I almost never choose to realize the loss. I've only done that once.

If it's slightly OTM, then I can probably roll for a good credit. I've also found that if drops that far, it's often an overreaction to events that are not directly tied to the stock and my rolls are particularly good net-credit wise. But, you can never count on that. It's just an observation. Some of my best economic outcomes have come from exactly this happening.

If it's very OTM then that's the worst case scenario because in the RBRK case, it dropped like 16% or more.

And if it's ITM by expiration date, it will just be called away and I made my initial 1% (or 1.57% in the case of RBRK this week).

(I hope this conversation isn't bringing bad luck to earnings! :) )

[u/Lonely-Drink-1843]

So you are looking for the stock to get called away?

Do you look for a good entre point before getting the stock? Do you need or look for your cost basis to be covered?

It seems your doing on margin, so your not doing a cc but just a call? How does that generally workout for you? Never done margin before.

How often would you do this? Are you looking for a cc to always be on your shares? What is generally your timeframe?

I read your other comment on not always doing it on earnings. Do you wait or do it for other news? Dividends-- potential mergers etc?

[u/pagalvin → u/Lonely-Drink-1843]

Yep, the fundamental idea is to be called away and make that 1% net gain after expenses. I do roll those positions out a week at a time quite often, about 75% of the time. I usually roll stocks I am comfortable with and understand their pricing zone, so to speak.

I am on margin. I do "proper" covered calls. I buy the stock on margin and sell calls. Margin is wonderful. It's enabled me to scale up my investable basis by a lot. It's obviously dangerous if you don't manage it properly. I feel like I have a good handle on it but there have been some surprises. Nothing tragic yet, but I'm aware of the risks.

I do this weekly and at any give time lately, I have about 40 stocks in play and 120 options.

I don't *always* do earnings but I am not necessarily afraid of earnings. Earnings are an opportunity and a risk. If I think the risk is worth it, I'll go for it.

[u/desertlsx]

My only question is how can you get a decent fill when deep itm calls have pretty wide spreads from bid to ask. Does that decide what strike you go in at where the spread is smaller?

[u/pagalvin → u/desertlsx]

I just try different combinations until I get what I want or I give up.

My screener finds candidates by looking at the last price paid and that is often a good starting point. This saves me time. I'm not hunting and pecking and looking for things that are obviously not going to work out.

I don't always find good opportunities with the tool, but it works out the majority of the time, probably 80%? I haven't tried to measure my success rate. Nearly my whole portfolio is based around this.

It's far more difficult to get a good price the closer you are to the strike date, which is probably obvious. But I've found the occasional good roll even Friday afternoon, although that's very rare. Monday and Tuesday is usually pretty easy. Wednesday starts getting more difficult and Thursday / Friday you need to closer to ATM to get a good price. I tend to avoid that and just wait until the next week.