Wednesday, February 26, 2014


As I mentioned in my talk before the San Francisco Bay Area Options Group last weekend, my Leap Strangle (see Older Posts) has taken precedence over DITM for the time being, at least until Volatility (i.e., IV) widens. In my talk I showed a table of my family portfolio of Leaps that had a paper (marked to market) return of about 7% for basically four months.

As this Bull market marches onward into its sixth year, I've become more concerned with safety, although, as the results of my personal Leap portfolio show, not only is the safety cushion much wider, but so is the Reward! As explained earlier, the "Cushion" is the money brought in by selling both Leap calls (covered) and puts for a goodly portion of the purchase price of the stock.

Not only do I want to ladder the expiry date of these Strangles (2015, 2106, 2017), but my entry has been almost monthly from just over a year ago; of the 20  different positions I hold, 10 were entered in the last quarter of 2013, four this year.

Adding up the current (paper) profit, of the $81,449 invested in stock, the walkaway profit (if positions were closed out), including dividends, is  $19,173 - dividends are $2868 of this total. Despite the sliding scale of entry time, the profit is 23.54%!

Full disclosure - if the trades are done in an IRA, or non-margin account, the result will be less, as one has to include in the cost basis the sequester of funds to buy (if necessary) the stock "put" to one if the stock drops and REMAINS below the put strike price at expiry. 12 of the stocks have an 2015 expiry; a few were rolled up (down) and out to 2016 - 2017 won't be available until October of this year.

Saturday, February 8, 2014

What Now?

After a 32% gain in the U.S. stock market in 2013 only a Pollyanna would expect more of the same, without profit-taking, rebalancing, and sector rotation. I recently wrote of a defensive investment strategy that, in my opinion based on thirty years of option experience, has both a high degree of safety and a lofty double-digit return - selling LEAP Strangles ( put & call straddles with different strike prices).

Having tested this strategy so far with 20 positions, I'd like to present three of the latest positions with projected  yields. (These trains have probably left the station, so are not to be considered recommendations, as exceptional as they may be) :

On August 16 of last year I purchased 500 shares of Trina Solar (TSL) at $8.97 a share, ($4494 incl. commission) while simultaneously selling a covered call (Leap) of 2015 - the $10 strike price-, for $1211, and selling the same Leap expiry put - the $8 strike- for a credit of $937. The intent was if the stock remained, or at least returned to, the same $9 price on Jan. 2015' third Friday, both options would expire worthless and I would keep the combined $2148 for a 47.8% profit, only to repeat the process with another two year Leap Strangle.

However, as it turned out, the stock went on a tear, doubling in the next few months, so I decided to raise both the put and call strikes to match and bring in more "security" money. In a trade off, this does increase the risk a bit, especially when you upgrade the call for a debit, to release more of the take-away price from the call- from $10 to 15, released $2500 and cost me a debit of $597. Raising the put was for a net credit : $1353.
If the options expire worthless and I sell the stock at its current price - $14.40, my return would be 135%, or  $6083, thanks to the fine-tuning for the stock appreciation.

The next two examples are a bit simpler, sans rollouts - making the monitoring almost nonexistent:

YRC Worldwide trucking, at $18.90 a share on January 7 of this year, fell within my boundaries; the Implied Volatility (IV) on the options, which normally falls within the 20 to 30 range, was 100 and 120, meaning the prices were huge! By buying 300 shares ($5679) and selling the 2016 expiry 20 call and 17 put ($2599 and 2839, or $5438) I got almost all my investment back immediately! Since Volatility usually indicates a fragile situation, the stock dropped to almost twelve within a few short days, but rebounded back to its current $21 level.  Should the stock remain here or above, returns would be $11,438 less the $5679 ( $5759) or over 100% (doubling my investment over two years.
Of course, there is the possibility of the stock dropping below the $17 put strike and more stock would be put to me, unless I closed it out beforehand.

The final example is on an ETF - the triple strength Gold NUGT which has Leaps. On February 6 I bought 100 shares for $35.95 - well out of the $5-20 LEAP Strangle range- but again I could not resist the IV of 93/98. NUGT shares cost $3604 (with commission); options brought in $1544 and $1380 - $2924. The put strike price for 2016 (at which time I assume gold will be higher) was $30, and the call at $40- room to run, both ways.
Finally, doing the math on this trade: If NUGT stays or settles at the initial price of $36, two year return will be 83%; if it rises to $40 or above (called away) - 94%.
If it falls and stays below 30, both the put and stock will lose money as the call gains by decay - occasional monitoring of gold will be prudent. If slightly below 35, one might consider another two-year collar (strangle) since they own the ETF already.  

Full disclosure: Low-priced stocks can be an indication of weakness - they can go bankrupt, Pink Sheets (OTCBB), or candidates for mergers or takeovers, in which case option treatment will vary. Stocks mentioned above, as well as the LEAP strategy, are only for informational use, not recommendations. Common sense and brokers' requirements dictate a fairly extensive knowledge of options and their dangers. None of the above pay dividends - this may also be a positive factor. Cost basis will differ if done in a tax-deferred (IRA) account where loss sequester is required, not margin equity from stocks. 

Friday, February 7, 2014

Leaping Ahead

Recently Stephen Todd pointed out that since 1900 there have only been three times that the stock market has risen five consecutive years up until now: the '20s, '40s, and '80s, which did not end well! A fourth time it rose 9 years - 1990s (say no more). For this reason it seems logical to assume a sideways to down market-strategy would be prudent. I also thought this in May 2009, when I started testing my DITM (deep-in-the-money covered call) hedging strategy, which happened to coincide with the recent 4th five-year up market, although my test account actually rose 11% per year for 4 years, then flatlined due to poor/early sector selection and low option Volatility caused by the Up market. It also increased the cushion from being 5 to 10% in the money protection, to much higher, for which I am now thankful.

With a higher likelihood of stocks now moving sideways to  down for the near future, an even more prudent strategy is being tested - one that a client successfully employed several years ago when I was a senior option trader (ROP) with Charles Schwab. This client would turn the tables, so to speak, from being the "patsy" in the game to being the House, or casino - by selling options rather than speculating on potential direction. The concept is to buy a quality stock in the $5 to 20 range that has LEAP options and sell a covered call (never a "naked" one), and simultaneously selling the same year Leap put- both slightly out of the money.

Normally one can immediately bring between 1/3 and 1/2 of the funds spent on buying the stock, providing a better cushion than the above DITM plan; although being similar to it, the Safety and Reward are both considerably higher, and the monitoring is almost negligible for about two years- at which time the options expire. Although potential annual double-digit profits are likely, direction is not important, but being called away at expiry does increase the return.

Since one year ago I have amassed a Leap portfolio of 20 positions, mostly done recently.

As with any investing strategy there are Risks attached:     
Below is the logic of the strategy with a theoretical example, and the "Visible Hand" of five fingers ( A through E) of what can happen over time.
As with "E", more stock can be put to the investor - so they must want to own the stock.

**Worst case:
Stock gets taken over or involved in merger - adjusted options

gets complicated, but no loss involved; XYZ goes bankrupt: 1 in 1,000

Profits on other 15-20 stocks make up for loss.

***commissions not included; stocks bought in IRAs, etc. must sequester Max Loss(e.g.$700)

In IRAs, profits become 8%: and 11% annualized (if called away)

If repeated every two years, no stock cost - profits much higher.

A Strangle is just a Straddle with different prices for calls and puts




Buy 100 shares of XYZ at $9.00


Sell 1 LEAP covered call -
Jan.2016 10-strike price @ $1.20


Sell 1 LEAP put-Jan. 2016 7-strike price @ $.80


4% Dividend; 9 quarters @ $9/Q=



% Profit:

(over 12 months, not 26)

If stock called away at $10 in Jan.2016

% Profit:


Stock settles at $10 on expiry-
Maximum profit, repeat NEXT two years
raise option strike prices.


Stock stays the same: $9
Maximum profit, repeat for two years

* If stock falls to $7 ON Jan.21, 2016 - Keep $281, resell 2 more years out (loss of $200 on XYZ).
Sell $6 put; sell $8 call (2018)
No cost for stock this time!!

*Worse Case: Stock falls BELOW $7 put strike price ON Jan.21 2016:

100 shares of XYZ are "put" to you; repeat D

Thursday, January 23, 2014


As I have written copiously about DITM (Deep-In-The-Money) covered calls as being a safe haven for investors/traders seeking an alternative to less risky strategies, with my extensive testing of it for nearly five years, solid proof came today in my most recent trade. Although DITM missed out on much of the unexpected 30-someting point 2013 rally, the upsurge did provide a wider cushion with further ITM security. It also hedged this losing trade, which I finally gave up on - one of the very few, and first of 2014: Ensco (ESV).

Looking back, just about all of the DITM losses were a result of being in the wrong Sector(s) - Energy, Precious Metals, Natural Resources: CLF, VALE, QRE, PGH, etc.
ESV also belongs there.

I bought only 100 shares of ESV in May of 2013 for just over $62 - $6214; selling the Sept. $57.5 ITM call and again the Jan.2014 call, as well as  nice 5.1/2% dividends, I finally sold the shares today at $52 5/8, or$5253. Instead of suffering a $1000 loss on the 100 shares, my net loss was $57 - if I would have waited for an uptick I could have broken even!  So basically what I lost was Time - much like leaving $$ in a MMF at zero percent.

After four years of testing in my small IRA, which gained @ 11% per year average, 2013 was a flat year, partially due to my Sector selection (see above) expecting a reversal, and also the steadily rising markets produced a mild Volatility, which impacted the option prices negatively. That is why I moved much of my assets into another defensive strategy - more Reward and even less Risk, but a little more complicated for option tyros: LEAP Strangles ( buying $5 to 15 stocks and selling Leap Out-Of-The -Money Covered Calls
 and Puts against them. This is outlined in recent posts of my DITM blog:  

A few of my Leap holdings (not recommendations!) include F, BAC, FTR, NOK,

Thursday, January 16, 2014

DITM Recap 2013

As mentioned before in this blog, after 4 years of  11% average returns in my small IRA - the microcosm of the DITM strategy, 2013 finally hit stall speed; partly because the steady rise of the market killed Implied Volatility (IV), rendering the VIX @ 13-14, and partly because my stock selection happened to be premature - going into Energy, Chemicals, and gold.

Here is the non-GAAP best-efforts analysis of the round trip trades closed out in 2013:
First the winners - 20 total, averaging 12.70% with an average 5.1 month duration.
Losing trades were only 3, but which amounted to over 40% of the winners, since losses are usually quite a bit larger by the time they are under water and decided upon.

Since it is difficult to arrive at a profit/loss since the same money is used for more than 1 position during the year, the annualized percent of 7.16% is based on the net profit. Hopefully 2014 will be an improvement, especially of there is a substantial correction, which is hedged against, raising the Volatility and premium of the sold Call options, as well as the 3%+ dividends from the underlying. Hopefully the commodity sector will rebound this year as well.