Yo Lock

So the market has been going nuts lately with the Dow hitting an all time high. I would like to sell high as the old saying goes.

But, instead of listing a limit order for my sale price, what if I sold a call option? This would lock in a price that I need to sell at as well as providing me with a premium. If the price hits, I sell high. If the price doesn’t, I keep the call premium. Seems win win.

What am I missing here?

Dow is at $15. You hold Diamonds that represent the Dow. You sell me a call option, and I can call it from you at $16. I pay you a premium of $1.

All of a sudden, the Dow surges to $500. You could have sold your Diamonds in the market at $500, but now you have to sell them to me for $16. I win! You lose! Yes, you get to sell high, but all your profits are mine, because you agreed to give me all your profits above $16.

Makes that $1 premium look pretty paltry in comparison.

It could easily cut the other way. Despite there is a chance the Dow goes to 30k, I have some unrealized gains that I’d like to take and reallocate my unbalanced portfolio. I’m not liquidating, I’m selling a large position high and reallocating to a position that’s lower (the old buy LOW, sell HIGH). While the high position could go higher and the low go lower, that’s not portfolio management; that’s speculating. Allocations are to be maintained for long term investment management.

I’m not sure I understand.

You say that the Dow surges to 30k, then you sell high. How then do you plan to buy low? Or are you saying that selling the call option right now IS buying low?

Selling the call option doesn’t lock in any gains, it just gives you little added income at the expense of possible further gains. If the market falls back down to $9, then your portfolio value falls with it.

Selling at a limit of $16 would lock in those gains, so if the market did a nosedive, you’d still have the $16. (Assuming that it first went to $16 which triggered the sale.)

So I have a diverse portfolio of equities, fixed income, real estate, commodities, and so forth. Equities are high, other assets are low. So I’ll sell some equities to reinvest in other assets. Rather than a market order or limit order, I’d like to sell a call option. I get a premium, and my position is called away at said strike price. This will then allow me to rebalance my portfolio per my IPS % allocation. I stick to a strict threshold of equities, RE, commodities, and fixed income.

The Dow could soar to 30k. It could also drop to 7k. I don’t have a crystal ball so I maintain my allocations even when some positions are ripping day after day.

You’d be better off just buying puts- if the market tanks you basically insured the whole amount, every dollar the market went down you recovered by having a long put position. If the market goes up you keep the upside in your stock position but you bought the put for no reason and will lose that money.

You can also construct a collar and thus buy the put and do your strategy above. The premium collected from selling the call will subsidize the cost of the put. This will give you a finite range of returns b/c you’ve limited your upside and down side.

Covered call and limit order are roughly the same if the market level blasts through the strike and the call option that you sold becomes far in-the-money.

However, that situation is not guaranteed. If during the life of the option, the market hovers around the strike, you will find yourself in a situation of assymetric risk - if the market moves up 10% from the strike, you will make very little money. However, if the market goes down 10% from the strike, you will lose almost 10%. This is what you sold with the call premium.

I guess I’m just not a big fan of selling options. Yeah, you get a premium, but that prohibits your from any gains in that position. If you think equities are overpriced, sell them.

Also, I think that’s a distinct decision away from your decision to buy other assets. Why would you buy bonds when interest rates are at an all-time low? Do you have any debt? My student loans are 6.8%, and my mortgage is 4.4% (not adjusted for the tax saving I get on them). Paying them down is better than buying bonds that pay 0.1%. (Need I remind you that you might be payinig 8% on a car loan or 18% on a credit card?)

I don’t really know much about real estate or commodities, but I certainly wouldn’t invest in them just because you have cash that’s burning a hole in your pocket.

He is just rebalancing his portfolio. It’s a very good strategy for the long run (i’m told)

^I depends on how you do it. The S&P buywrite index has roughly the same return as the S&P 500 (since 1990), but significantly less volatility. That’s a good strategy, but I could easily conceive of covered call strategies that would be ineffective.

Selling calls/puts instead of using limit orders is a no brainer and a win-win, it is free money. The only downside is you’ll never add more than a few bps of income a year since you can only sell for a notional you hold or can afford to be assigned on. And it only works on optionable things, duh.

It does help offset commission costs incurred elsewhere though.

My largest single stock position

is in CAT. avg price 60-70. If ATM vol goes

above 25%, I’ll sell covered calls. I’m fine

with getting called $87.5 or up.

I’ve written plenty of calls on CAT for the past two years, and a couple times I was assigned at 90 recently…

Depends on the specifics… I have a large position in BAC, but the call options are so cheap that it’s not worth writing covered calls on the position…

No idea what stock you got, but yeah, if there’s not enough vol to compensate for the shorter term options, write some out a few months, like in August around your ‘limit’ price… keep churning them, let them expire, until you get called, or maybe never get called.

Downside is, yeah, your stock could just keep going down… but you get the premium…

Not sure if you’re “missing” it, but the issue here is that if the Dow blows past your strike price by more than the cost of your premium, you may find yourself wishing you had been able to cash in on that higher-than-anticipated upside.

If that happens (blowing through your strike price), it doesn’t mean you were smart or dumb (since where the Dow goes before expiry is inherrently unknowable before the fact), but you still need to figure out 1) how likely an event that is, and 2) how much you would regret it if you did. Smart trades have as much to do with how the trade matches your personality profile as with how much objective research you did on setting it up.

The other issue is that you are still exposed to downside fluctuations. If you think that the market is overvalued, that’s your chief risk, so writing a put at around what you consider fair value allows you to gain some premium and to pick up the stock at what you think a fair price is, if it gets there. Of course, if the option is ITM at expiry, you’ll likely kick yourself for not being able to buy it cheaper, but you’ll get to keep the premium if the market stays overvalued.

I don’t think he cares about it going higher than the strike price. His whole point is to rebalance his portfolio, which I’m under the impression works best if you don’t try to market time. But this entire thread is confusing me. I don’t know why he just doesn’t sell the position if he wants to sell high lol

Do you invest in that index? It’s interesting and thanks for making me aware of it. I’ve been reading about it inbetween studying. My only equity exposure right now is in my two 401ks. I’ve been thinking about deploying funds in another index if prices correct to below mean levels soon. I’ve just been riding the LendingClub gravy train, but equities are more ‘exciting’ and get more girls at the bar

US is expensive and defensives are expensive, especially following the YTD rally. I’d move out of US defensives and into cyclicals with exposure outside the US. Starting to see some hiccups in the trend of this rally: cyclicals outperforming defensives in May, I believe.

I missed the post where he said he was rebalancing (was skimming, and that part came up later).

The problem with selling a call to rebalance is that you don’t actually get the cash to reinvest in other assets until the call expires or is exercised, because that’s when you can sell your stock safely, yet you’d like to rebalance now. You can’t sell a call and then sell your stock immediately to rebalance, because then you’d be left with a naked call liability which could bite you in the azz. Yet if you do wait for the call to expire, maybe your portfolio looks different and the rebalance now requires different quantities.

If you are rebalancing only small quantities, you may still have the right assets to cover the call, so you don’t necessarily have a truly naked call, but now it’s no longer some clever way to rebalance at a higher price. It’s just a regular covered call. You might like having that extra income, but tying your call size to rebalancing needs doesn’t make a lot of sense as far as I can see.

There may be a more complicated way to do it with calls on one asset and puts on the other, but again, the rebalancing doesn’t really happen until the calls and puts expire, at which point the rebalancing needs may look different.

I don’t claim to be an options guru here, so if I am missing something, I’m happy to be corrected.

Are these in taxable accounts? If so, you can end up with lots of short term gains in a buy/write program, especially if your stock positions are hitting the strike price. What you can do to mitigate this is age the stock by buying back the call and selling another call at a longer maturity. That allows you to age the stock position for tax purposes.

Let’s take a step back everyone. This is getting way too complicated. My man LP hit it. I’m torn between a limit order vs. writing a call. I think I’ll write the call anyway and let it get called away at a high price and keep the premium. It’s a Roth account so there are not tax implications.

All I’m doing is taking gains if limit/strike price is hit. If it doens’t hit, I’ll keep it as is. This is only for rebalancing as my equity portion is falling out of line of my IPS. While it’s fun to let it rip and roar, that’s not pruedent investment management. It takes stones to sell high (as you think it won’t ever stop) and it takes bigger stones to buy low (as you think why the fck would I buy this piss poor asset). But, I’ve learned the hard way to do it and not speculate.

Well, as one non-CFA, non-Harvard, hack-a-sack loser said, “Be greedy when others are fearful, and fearful when others are greedy.”

Just make sure that your IRA custodian allows you to trade options in the IRA. A lot of custodians don’t.

I guess if you’re determned to sell anyway, there’s not a lot of harm in selling a covered call at your limit price.