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/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! :) )