covered combination question for option pros

Discussion in 'Options' started by Free Thinker, May 11, 2002.

  1. would like some advice from option pros on this trade.sounds very good to me.
    covered combination:
    orcl buy 1000 stock at 8.00
    sell dec 02 call 0.85 10 strike
    sell dec 02 put 1.15 7.50 strike
    max return if called: stock profit 2000
    option prem 2000
    total profit 4000
    % return on money invested 66.67%
    annualized return 41.38%

    if put to end up with orcl shares for 6.7

    or same thing with jan 04 leaps

    1000 orcl 8.00
    sell dec 04 10.00 call 1.85
    sell dec 04 7.50 put 1.80
    max return if called stock 2000
    option prem 3650
    total profit 5650
    % return on investment 129.88%
    annualized return 76.96%

    if put to you own orcl stock at 5.92

    margin on these should be 50%

    if orcl goes under 5.92 you lose 2000 per point

    the risk reward seems good on these plays.with these stocks at these prices seems like they should be clost to bottom so the chances of loss seem acceptable.does anyone else do these plays?want pros and cons to the play.comments?
     
  2. The term "covered combination" is a misnomer. It's a covered call position with a naked put. Calling a "covered" combo suggets that there's no risk on the short option (true for the short call but not true for the short put).

    The obvious risk is if ORCL Worldcoms on you and tanks to 2 for whatever reason.
     
  3. bone

    bone ET Sponsor

    Never be short premium unless you own or wouldn't mind owning the underlying.

    That being said, you could go ahead and sell the puts, and keep a GTC stop if your break-even price is reached.

    Ever notice how many stop orders are situated around option strikes?
     
  4. I think you could find a better game ...
     
  5. trdrmac

    trdrmac

    Since this is a mildly bullish play, why not just sell the puts and be done with it. If you sold 2000 puts you would collect $2200 in premium with $15000 at risk. I am leery of using 50% margin to calculate returns, but this is a 14% return with a similar risk profile. And if ORCL stays above 7.5 you make money.

    The second question in my mind is if this is the only play you are doing? Personally, if I were writing puts on individual stocks I would find 10-20 names I like and divide my risk. Or use puts on the QQQ or SWH which have lower volatility but less company specific risk.
     
  6. I agree.
     
  7. "Why sell the calls at all?
    Since this is a mildly bullish play, why not just sell the puts and be done with it. If you sold 2000 puts you would collect $2200 in premium with $15000 at risk. I am leery of using 50% margin to calculate returns, but this is a 14% return with a similar risk profile. And if ORCL stays above 7.5 you make money.

    The second question in my mind is if this is the only play you are doing? Personally, if I were writing puts on individual stocks I would find 10-20 names I like and divide my risk. Or use puts on the QQQ or SWH which have lower volatility but less company specific risk."

    no this isnt the only play im doing.havent even done this one yet.just kicking around some numbers on some former hi flyers now single digit stocks for this play.seemed to me some of these companys arent going away and the % return of the premium recieved on these stocks seems nice.there are dozens of these so it would be easy to diversify.actually if i did this i might rather look at some semi stocks.
    as far as selling QQQ premium.it seems like there isnt much premium there.no one must expect it to perform again.

    here is what i see:
    qqq jan 03 30 call =3.10 or 11.87%
    jan 03 29 put =3.10 or 10.59%
    prem sucks on the qqq

    orcl jan 03 7.50 call =1.85-0.50 itm=1.35 or 16.8%
    orcl jan 03 7.50 put =1.20 or 14.98%

    stradgey1.sell orcl puts only =19.05% return if not assigned
    2.sell combination =69%if called
    3.sell combination =26%if stock doesnt move and not assigned
    4.any of above and orcl goes to 2 you lose big.


    my research shows that these single digit stocks have much better prem % than qqq.so the question to be decided is if its worth it to sell premium at all and if so what vehicle to use.

    here is what got me thinking about this:
    http://www.thestreet.com/p/rmoney/optionsbuzzrm/10021596.html;jsessionid=2619601021227363714
     
  8. A simpler alternative would be a credit spread.
     
  9. trdrmac

    trdrmac

    There is no question at all that individual issues have greater volatility and a higher premium for dollar at risk than a basket of stocks like QQQ. It has been my personal experience over the past two years that I have ended up owning almost everything I have written puts on, so I have made a few observations that may or may not help.

    I use the QQQ for my tech put writing, but I don't mind holding or scaling into the position. So I have the JAN 03 30 Puts and the Jan 04 25 Puts written. Then if I do get hit I buy the merchandise outright (no margin) and write calls against it. The other advantage is I can SHORT the QQQ against the puts much easier than say 10 individual issues.

    The other thing that has worked to avoid the tech wreck are the holders such as OIH, PPH, UTH, BBH, IBB, IWO, IWM, MDY, VTI, etc.
    All have options available, but the premium is much less than a single stock.

    I try to write the puts at or below major support, and if we get a rally I almost always cover the short put. More and more I am leaning toward IB to do this since the commissions are so low. Even 12-20 both ways cuts pretty deep vs 1.95 per contract so give that some consideration as well.

    The big disadvantage I see with covered call writing is that often times when you get a rally you would want to go flat on the position but the cost of buying the calls back would cause a loss on the position. As a result you end up holding something that you would have rather sold. This has been all too true with my own portfolio during the bear rallies.

    Best of luck.
     
  10. nitro

    nitro

    !!!!!!

    If these puts are out of the money, IMHO, this is incredible. How many puts have you written in the las two years? How far out of the money are they percentage wise from the stock?

    BTW, I wrote a naked put three times in my life, all recently - I like you, write puts on stocks at "support." The first and second time, I wrote using a small amount, and it seemed like easy money. The third time, having gotten some confidence, I decided it was time to put on a real position.

    The trade wiped out a third of my trading account. I sold the May 22.5 put on TYC when the stock was at 31 - one day before it started it's nearly waterfall descent. It had a little over a month of time premium.

    I watched in horror, as the option, even though it was no where near to being in the money, had jumped in value by a huge amount. Then the next fateful day, the stock opened down 5 points - the put was now ITM, and I was in deep shit. Having some experience with these gaps, I held on expecting a rebound.

    Instead, I watched people continue to puke the stock, all the way down to 15 and change. I was horrified and for a fleeting moment, I had thoughts of ENE and blowing out my account. But the trader in me refused to panic (where in this debacle should I have said "enough is enough ?") - I knew that everyone was running for the exists at the same time, and barring TYC being ENE, it simply "had to" spring back - (besides, I reasoned, who besided the specialist was on the other side of these pukes? He hadn't gapped the stock down again?)

    It did, and I exited when the trader in me saw a shift in momentum at just below 19. I was right short term, but the stock had quite a bit left the next couple of days.

    I write this only as a kind of journal to myself, and to offer a kind of warning to you. I have thought about this trade many times, trying to figure out where I should have taken my loss. I don't think that anyone worth his salt would have chickened out of this trade until the put was ITM - however, what do I know - 20/20 offers lots of different opportunites to have been a hero...

    nitro
     
    #10     May 13, 2002