Selling Call Options

You are on the page “Selling Call Options” under “Philosophy, Strategy and Risk.” If you like “Main Street beats Wall Street” you will be here many times. Selling Calls is the heart of my stock options strategies. If you were to look at my brokerage account transaction list, there will be many more transactions involving selling options than buying. However, many investors focus on buying assets for their portfolios, especially young investors, but it takes buyers and sellers to make a market. And the truth is both sides have benefits, as well as risks. One thing you must remember when deciding if you want to concentrate on buying or selling options, 80% of bought options expire worthless. This is a fact! It’s true when buying options you can make quick and impressive percentages on your money invested but I’d rather be on the side of the equation that is not 80% losers. I like to keep the money that the option buyers are spending on the options I’m selling! Someone has to do it! Again, you need buyers and sellers.

When you sell an option, or for that matter, when you sell anything you receive money in exchange for what you’re selling. This is what I enjoy doing, selling something for money. Especially when the supply of items are unlimited, and the things I’m selling cost me nothing. If you are a beginner it might sound like I’m talking out of my hat, so let’s examine what I’m saying, Grasshopper.

When it comes to selling Call Options, you can sell Covered Calls or you can sell Uncovered (Naked) Calls. I prefer to call them Naked Calls. I also prefer selling Naked Calls. A Covered Call means the underlying stock is owned by the Call seller also known as the Call writer. A Naked Call means the underlying stock is NOT owned by the Call seller. This page is for selling Call Options in general. “Main Street beats Wall Street” also has pages specifically for Covered Calls and Naked Calls. As a basketball coach, I believe in repetitive teaching. When coaching basketball I did drills day after day so the skill we were working on would sink in and become second nature. I’m the same way with stock options material. You will see similar material mentioned on many different pages in this blog.

When you sell a Call Option, you are selling someone the right to buy stock on a share for share basis. Call Options are sold in 100 share lots called “contracts.” If you sold 1 contract, that would be for 100 shares of stock. 2 contracts, 200 shares of stock, and so on. Each contract is 100 shares. This terminology is part of the Wall Street lingo and we must get used to it. When I sell 5 contracts of the Call Options for IBM, with the Strike Price of $100, I have the obligation to deliver 500 shares of IBM at $100 per share. If the stock hits the Strike Price ($100) and I previously owned the stock, I deliver (sell) them my 500 shares. If I don’t own the stock, which means I’m Naked, I have to buy 500 shares of IBM because I’m obligated to deliver it to the Call buyer. Being Naked can be very risky because if IBM went up to $105 per share, I would have to buy the stock at $105 and deliver it for $100. I would lose $5 per share on the stock sale because I didn’t previously own it, I was Naked.

Selling options, when done correctly, can give you an overwhelming advantage as an options trader. When you sell an option you take a short position, but don’t confuse the strategy of “selling options” with taking a bearish directional position. They are truly unrelated. I’m talking about selling options instead of buying options. This is the secret that I learned years ago, and I’ll show you how it’s done correctly with little risk in my live trades posted as I make them. Selling options is by far one of the best ways to put probability of success on your side.

As you’ll see in many pages of “Main Street beats Wall Street”, the big advantages for selling options rather than buying them is, #1 you have “Time Decay” on your side, and #2, picking direction correctly isn’t the main driving force to being successful. Sure it’s better to know which way a stock is going to move, but the trade can still be profitable even if you’re unsure or wrong on the direction. The huge challenge for option buyers is picking the direction a stock will move and having it move in the time allotted in there options contract, or they get the direction completely wrong from the beginning. Selling options gives you a very large margin for error when assessing where a stock might go. I cannot impress this fact upon you enough. I will address this directional picking problem option buyers have in the “Buying Call Options” page. Also in the “Buying Call Options” page I will explain the #1 enemy of the option buyer, the concept of “Time Decay.”

Let’s start to examine why I’m an options seller. Below are a few ideas along with some of my philosophies and strategies I want you to consider when determining if you want to trade options and if you want to be an options seller or buyer. Be sure to also read the pages “Covered Calls”, “Naked Options” and “Buying Call Options.”

Option availability

Above in the first paragraph, when talking about selling options and there availability I wrote, “the supply of items are unlimited, and the things I’m selling cost me nothing.” The New York Stock Exchange and the Nasdaq have over 6000 stocks listed. Just about every stock has options, a few don’t. All stock with options have at least have monthly options, but most today have weekly options. Each stock might have 40 to 50 Strike Prices and possibly 50 to 60 Expiration Dates for each Strike Price. And I might have underestimated! Each stock might have a few thousand options to pick from. Times that by the number of stocks on the NYSE and the Nasdaq, you have a huge number. Like I said, the items to sell are unlimited!

When selling options, you are selling something that cost you nothing. If you buy an option you must pay but selling you bring in money. You do need to have money in your account in case you have to buy the stock and deliver that stock to the buyer of the option you sold. The option itself, you do not have to buy before you sell it. This is why I love selling options. If done smart with discipline you can make a lot of money.

Time Decay on your side

As you read more and more of “Main Street beats Wall Street” and other study material, you will start to master the concept of time decay. Time decay may be the most important subject to completely understand whether selling or buying options. You must also understand the meaning of being long or being short. When selling options you are short. When buying options you are long. Make sure you read the pages “Long & Short positions” and “Time Decay.”

As you master the idea of time decay, you will see that when being long an option, time decay is your enemy. As time passes the option you own loses value. When being short an option, as a result of selling the option, time is on your side. When you are short, you sell to get into the position. You “Sell to Open.” To close that position you either have to buy the option or have the option expire worthless. If you sell something for $10 then buy it back for $2, you made $8. Just like if you bought something for $2 then sold it for $10. Selling first is very confusing for many beginners. In both situations you made the same amount of money but you bought and sold in different sequence.

When selling first in the above example, we sold for $10, if this was an option, as time went by the option went down to $2 because of time decay. This time decay is on the sellers side and it’s a huge tool of the option seller. Time decay is the number 1 reason why selling options is my number 1 strategy. The concept of time decay MUST be mastered! If you have trouble understanding how the value of an option goes down with the passage of time, you must do more research or email me and I will help you. Coachsjc@gmail.com.

Picking Direction

I would like to suggest to you, that the main reason traders lose money in the market, is due to the inability to consistently predict market direction and market moves. And many times traders can pick market direction and their individual stock will not cooperate; they will move opposite market direction. While I might be stating the obvious, there are thousand of systems attempting to pick direction. Fundamental traders try to predict market moves by putting their attention on local and global news and events such as geopolitical tensions, earning reports predictions, inflationary indexes, weather conditions and more. Technical traders attempt to predict market direction by looking at chart patterns. There are many systems out there, some are good, and some are not. While both of those approaches may work for some traders, some of the time, I strongly believe, and teach while coaching option trading, that it is extremely difficult to consistently predict market direction. Selling options, and focusing on time decay is another strategy of trading, a strategy which to some extent is independent of market direction and one which benefits from the one thing we all know too well, time passes, time simply moves on. And while time moves on, we as option sellers, benefit from “time decay.”

The Premium

Different traders have different reasons for selling options. Whether it’s for Hedging, getting paid to sell stock or for extra income. The bottom line is, option sellers are in the option market for the premium. They sell something and they want to ged paid. When they sell an option the money they get paid is called the premium. As an option’s trader I primarily sell options and I sell options for the premium, PERIOD! I do not like the risk of owning stock. I feel the money I bring in with premiums and the rate of return I make far exceeds what I can make watching stocks go up and down.

When selling Naked calls, I love to buy the option back if the stock takes a dip. Example: If a stock is selling at $20 per share and I sell a Naked Call with the premium of $.50, on 10 contracts (1000 shares) I bring in $500. If that stock takes a dip down to $17 per share, the premium might go down to $.15. On the sale of the option I brought in $500 and if I buy my way out of the contract it would only cost me $150. My profit would be $350. I do this very often. Please read my section on “Naked Calls” under “Philosophy, Strategy & Risk” in the top menu bar.

Opportunity Lost

 “Opportunity Lost” is the limit you put on the upside gain of the underlying stock when you sell a Covered Call. When selling Covered Call Options, you will collect the premium but you will give up any upside gain on the stock above the Strike Price, if the stock raises above the Strike Price. If the stock goes above the Strike Price you will be assigned and you will have to deliver the stock at the Strike Price in the option’s contract. Please go to my page “Opportunity Lost” which is under “Philosophy, Strategy & Risk” in the top menu bar. When selling options, more specifically Covered Call Options, you must understand Opportunity Lost.

1 Week/1%

“1 Week/1%” is the name I put on one of my strategies. It is also the Rate of Return I look for. Not only is it the name of one of my strategies, it’s my favorite strategy. I put this little section about it on this page because it’s the return I look for when I sell Call Options. I look for deals where I get a 1% return and my Expiration Date is only a week away. Go to “Philosophy, Strategy & Risk” in the menu bar and there’s a page on this strategy.