Entire books have been devoted to the subject of option volatility alone. No doubt that option volatility is the least understood element behind the option pricing scheme. Traders who can fully understand the importance of volatility as it relates to the price of an option will definitively have a trading edge... Traders interested in learning more can read "Volatility Trading", by Euan Sinclair, for example (assuming they have a strong mathematical background), as see just how complex the problem is. One thing is for sure though, trading options is not for the casual traders but for the very sophisticated ones, as it requires a high level of expertise.
Certainly not for your average buy and hold mom&pop investor. Probably an allocation of their total portfolio into index funds may be the way to go. But, covered call selling I think is fine, so long as you are not afraid of triggering a tax event due to the selling of shares. Although, covered call selling isnt exactly trading in and out of those positions. Often you either let it expire worthless or wait to have shares called. Nonetheless, I don't think you need to be very sophisticated to be doing covered call strategies. Pretty easy to understand as far as that's concerned.
Covered call writing is identical to a short naked put in risk/reward. Isn't it? For instance, the upside is limited to the premium collected wheras the downside has no limits at all. Plus, commissions are less with the NP, because you have two commissions with the cov call and one for the NP. There are other considerations as well, but risk/reward is identical. Some brokers are just fine with CC's while aghast if you mention a NP in their presence. Why? Jerry
From a retail perspective, this general argument simply holds no weight and should be considered void within the context.
I often ask these precise questions to determine how sophisticated an options trader I am talking to. I have others that I have asked on this very forum with surprising results. (If they give a better answer than I can, then I know I am in trouble!) Who bears the risk? If the stock goes down to zero and you keep your covered call premium you have paid the ultimate price for risk. Broker is happy, you are unhappy. If you sell a naked put and can't pay, then the broker carries the risk ( they must make good on your obligation ( unless they use something even more nefarious like Reg SHO and FTDs)). Broker is unhappy, you are happy. Police are called, if they find you then broker is happy and you are unhappy. Therefore to prevent this loophole in the money flow system, they talk down naked puts and invent margin. Or sometimes photoshop bank statements even - apparently the regulators don't clue in for years. Of course, if you are a bank or a sanctioned broker ( PFG Best, Refco, MF Global etc). the government will bail you out. Which is you again by another name. Broker is happy, you are unhappy. Do you see a pattern here? Re-use this pattern on other regulations like insider trading, HFT, taxation etc. It helps you understand the money flow of markets - http://foundingfather1776.wordpress.com/2008/03/19/the-man-and-the-monkeys-a-wall-street-fable/
Yes and no I guess. A synthetic short put is where you are long 100 shares and sell a call. So the profit-payoff diagram is similar to naked short put. Usually you are long 100 shares and sell a call at the money. So your gains are capped, but you collect premium, and exposed to full downside of stock going to $0. But, you can be long 100 shares and selling an OTM call. This allows you to capture some more of the upside from there and collect premium also, but also exposed to stock going to $0. Its sort of like generating an already out of the money short put, versus just a put at the money when doing OTM covered call selling. But this is only true if the stock is non-yielding. If a stock has a dividend, you actually continue to collect dividends while you hold the stock (unless called away but typically wont as long as not close to being ATM or ITM), whereas a short put is non-yielding. So OTM covered call selling is better or at least different than just naked short put I think (short of the advantages already discussed of naked put selling like getting a better entry price and having a larger margin of error of price moves for otherwise bullish investors).
Actually for the average retail investor short puts are better than covered calls in any stock that is hard to borrow. You get the "value" of the hard to borrow being short puts. If you do covered calls, you are giving up this "value" and letting the broker get it by loaning out your long stock.
Not if you are not using margin. Or unless at least if the investor didn't sign an agreement to loan stock for short borrowing to collect some more income.
Slightly off topic but here it is : some option software can supposedly find (and profit from) "mispriced" (over valued, under valued) options in real time using their respective volatility skew graphs. Can anyone comment on that?