Anyone tried selling deep ITM Leap covered calls?

Discussion in 'Options' started by johnmarg, Nov 23, 2006.

  1. johnmarg


    This seems to be a good way to get income even if the right stock declines by a lot. There are a number that can be sold with a 10% per year income and higher, good stocks and losses only occur if it drops 50% or more. Does anyone use this stategy. For example XMSR stock jan 08, 7.5 strike sells for 8.80 and has an 11.4% return all the way down to 7.5, a more than 50% drop from the current 15.5 price.
  2. jj90


    How do you feel about selling naked puts?
  3. Same question as on OX boards :)
    Hopefully you'll get some better answers here.
    daddy's boy
  4. Ok, I'll give it a shot.
    You're long the stock at 15.50 --- 100 stocks = $1550
    You sell one ditm jan 08 7.50 leap call for 8.80 (or $880)
    b/e = 15.5 - 8.80 = 6.70 or $670
    Max profit is $80 (7.50-6.70) for 1 leap covered call.
    Meanwhile you have tied up $1550 for 13 months at interest rate of about 5%. This 5% of interest forfeited is your $80.
    In summary, your max profit is $80, the interest you would have earned if you had invested the money in cash.
    The max risk is your stock falls more than 50% (yes, it is possible).
    daddy's boy
  5. I've just been thinking: how on earth do you get your 11.4% return?
    Your max profit is the credit received for the call sale minus the difference between call strike and stock purchase price. You then take that figure and divide it by your stock purchase cost to get the return. This gives a result of 80/1550=5.16% over 13 months, a long way from your 11.4% p.a..
    An easier way to look at this is to look at the short jan 08 7.50 put, which is the synthetic equivalent - the sale of the naked put is your max profit.
    daddy's boy
  6. Maverick74


    All you are doing is selling a DOTM naked put. I fail to see the efficacy of such a strategy.
  7. How do you get that? Here is the way I figure it.

    His cost for the stock is 15.50 - 8.80 = 6.70. Assuming the call is assigned he will sell the stock for 7.50. So his profit will be .80 on a cost of 6.70, or 11.9%.

    I'm trying to see what PowerOpt calculates, but I'm getting database error messages there.
  8. Your math is right, except you have to account for the interest. At 5.3% (roughly LIBOR), you're losing $38 in interest by holding $670 in stock instead of cash.

    Profit will become 80-38 = 42 on a max risk of 670 over 13 months, or 5.7% per year.

    You'd be better off selling the 7.5 puts at .55. Profit would be 55+3 = 58 on 750 risk, or 7.1% per year.
  9. just not worth your time......opportunity cost alone......shoot you should be making 8% a week....a day over the last 2 look at some of these runnups just from is it around 27.00 now.......yhoo 22.65......28.00.............even that turtle xom is high.......intc 16.80......21.75 (range) even msft 22.00 to look at all the near 52 week high stocks there are right now........but just revrse this and makes these same returns on the way down:)
  10. What he said. Selling naked puts is always going to be the better choice in this scenario. And as long as you are selling the number of contracts that reflects the actual number of shares you had intended to and are capable of buying, you will be fine. It would be logistically no different than physically buying the shares and selling the calls.
    #10     Nov 25, 2006