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Creation of cash flow: Using Covered Call strategy to pay you cash

Date: 2010-05-05 | Author: Emlyn Scott

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'll in this article assume that you already have the basic understanding of stocks and options. If not, it would be useful to read these investments first. The covered call strategy brings together stocks and options to form a third strategy: a strategy for cash flow. The strategy of covered call has a number of advantages which makes it an essential part of wealth creation in your arsenal, that is:

* Simple and quick to implement

* Easy to understand and follow

* Produces fantastic cash return on capital

* Help protect your portfolio from market fluctuations

* Fairly conservative? Ie it is not a high risk strategy

* A relatively hands-free once the investment, which frees your time to concentrate on other things

So what kind of return you expect from the covered call strategy? Well, let's examine the strategy and the first example because this strategy has a range of yields. But before we rush and implement this strategy, I would like to highlight to you that the covered call strategy should be used by those who already invest or intend to invest in stocks. Investors should not simply buy shares in implementing this strategy, for one simple reason ... there are better strategies available. This does not mean that the covered call strategy is not working in this context, it is not ... ... it is fair to say there are better strategies. However, if you have a stock portfolio or the intent of the covered call strategy is a great way to generate a good income, while reducing your investment risk.

Most investors simply buy funds (whether actively or passively managed index trackers) and to fully take the hand-off approach. Some are more adventurous to invest directly in stocks are also in the hope that in time they will be able to watch their stocks rise in value. Their yields, also known as their earnings, is represented by a line of 45% over a scheme of payment.

Investors? Wealth? Apply a different strategy.

The covered call strategy generates additional income by selling options on the shares you own. You can think of it as the location of your hand as you rent an investment property. Few "investors" buy stocks and do not rent them out. Would you buy investment property and only the capital for her return and not hire someone to generate income for you? Of course not ... and the same goes for stocks.

When I say the word "options" which are derived, many people think instantly risk. If you are thinking of these types of thinking that you do not know the options and derivatives in general, fairly well and that you owe. Any investment is risky if you do not know what you do. As a former professional derivatives trader, I know that derivatives should not be afraid, but they must be respected. You need to thoroughly understand what you invest in if you expect to be rich. Ignorance is not bliss!

Selling, also known as the writing calls on stocks are not risky. It is a prudent investment strategy. In fact, it is much less risky than investing only in stocks by themselves.

The mechanics of the subject of appeal:

The trade covered call is a combination of exchanges in which you own a certain amount of stock and you sell call options of equal value. As a seller of the call option, you receive a cash-flow (the premium) by the buyer. You are actually selling the call option to the buyer the benefit of the increase in stock over the option price. You have decided to sell your shares at a price determined by the option expiration date. They in turn pay you a premium for this benefit.

You are always exposed to the possibility of falling stock prices, but it is reduced by the premium income from the sale of Appeal, which is why it is a more conservative strategy that having straight stocks.

Your earning potential is also limited because you can not earn more than the increase of capital in inventory, with the option of the strike plus the income from sales calls. Over the option strike on the buyer to exercise his option and you should sell your shares at an exercise price of the option.

Covered call example:

Let's say you bought stocks in 1000 xyx for $ 50 each, totaling $ 50,000 in May and June 10 you have sold options to purchase $ 55 for each $ 2.50, which expire after 4 weeks now. If XYZ is above $ 55 to $ 60 by the date of expiry of June, you will be "exercised" and sell your shares at the option of $ 55 will be below June the new market price of $ 60.

Your compensation for this is the premium of $ 2.50 on each call. Now the $ 2.50 is because the call option 250 in this example, represents 100 shares. In the United Kingdom and Europe, the multiple is usually 1000, while the U.S. is usually 100. Since you sold your 10 options total premium is $ 2500, representing a 5% return on your investment of $ 50,000 over 4 weeks (which is an amazing annualized return of 89%).

If the share price falls below $ 50 in your inventory, losses will be partially offset by the $ 2.50 of income from your options. That is why it is more conservative than the mere holding of pure strategy stocks. If the stock remains at $ 55, you get your $ 2.50 and any capital gain returns on your stocks. Anywhere between $ 50 when you bought XYZ, $ 55 and when the strike is an option, you will receive the same $ 2.50 and increased return on your capital stocks.

The maximum you can hope for is always where your option is exercised. Over $ 55 and receive $ 2.50 in option premium and $ 5 in capital appreciation on your stocks. This is a total of $ 7.50 at 4 weeks, or 15% (which is really amazing 515% in annualized return).

Covered call variables:

The key variables are time in the future you sell options, and that the strike must be sold?

The more you look into the future, the higher the selling price of an option. For example, in our example xyx option of appeal in June was $ 55 sale of $ 2.50. The July $ 55 call would be to sell a bit more than that, eg $ 3.50. However, what tends to happen is that you look further into the future, increases become smaller and smaller, so the August $ 55 calls can be only $ 4.00. So to get the daily maximum from the sale of a call, you should sell calls closer to the end, for example up to 60 days. You can calculate and compare alternatives to the strike even looking at the "daily" income. Thus, in the case of our $ 2.50 option, it would pay $ 0.09 per day ($ 2.50 / (4 * 7), which is much higher than the $ 3.50 's back option of $ 0.06 per day ($ 3.50 / 8 * 7).

The choice of the strike is more difficult and depends largely on your point of view of the future movement of stock. The increase in the option strike you sell the lower the premium will be paid, but the advantage is less likely to be exercised in order to earn more if the share price increases. So where the call was a $ 55 sale at $ 2.50 per call $ 60 could be the sale of $ 1.00. If the price of XYZ stock rises to say $ 60, you win $ 7.50 in the case of the $ 55 ($ 5 + $ 2.50) and $ 11 in the case of the $ 60 ($ 10 + $ 1).

The downside of the strike call is more than you lose more and more of your coverage when you move more and more strikes. For example, if the price fell today xyx from $ 50 to $ 47.50 at maturity, in 4 weeks you would have broken even on the $ 55 you call that a $ 2.50 loss on the stock would be fully offset by the option premium $ 2.50 you earned. However, in the case of $ 60 you lose $ 1.50.

In general, the balance of convenience and protection against the gain is to sell a little out of the money as requested $ 55 call.

Another general rule is the strategy of buying your request if you can buy for 25% or less of the original sales price because the stock fell in price and the resale of new calls for the original price. For example, say that the price of XYZ stock drop from $ 50 to $ 45 and buy calls to $ 55 for $ 0.50 and sell the $ 50 calls for $ 2.50. You have effectively increased your option to return $ 2.0

Tag : wealth creation education, community, wealth, earn money, financial freedom, money, rich, options, creation, cash, call, strategy, pay, covered call strategy, cash flow, strategies, covered call, calls, pay you, covered, flow

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