Okay, I’m going to show you guys how to do a covered call the way I do it. Maybe a little different than other traders, but that usually is hand in hand with most things I do. I’m in the ThinkorSwim OnDemand platform. If you’re not familiar with this platform, definitely check out my video below talking about it and why this particular part of this platform and my opinion makes ThinkorSwim the best platform for trading options, but what it does is it allows you to simulate trades overtime using real data for the most part, minus a few little metrics.
Anyways, I’m going to go back. Let’s go back to like late last year, okay? I like to do these things where I go through like a crazy time like December 2018 when things were crashing and burning. We’ll go back to 3:35 on August 15th, 2018 and select to Go, okay?
While that moves back in time here, I’ll explain the basics of a covered call just in case you don’t know it, what you do is you buy the stock. Let’s just say it’s 100 shares of the stock because options are sold and 100 share units typically.
Let’s buy let’s say 100 shares. Now that we’re back on this date of Disney. I don’t even know what Disney was doing at this point. Doesn’t really matter to me. I love Disney as a stock personally and I’m not really ever scared to buy it.
On this particular day, it was at 112 it’s up 0.21%. Awesome. It doesn’t really matter to me. I’m going to go in here and I’m going to buy 100 shares. Now typically, that’s going to throw you out of the market rate. I’m going to come back here, I’m going to limit it for speed.
I was just going to do market, but actually, it looks like it’s right here at the mid point anyways. You always want to make sure to do that. It’s a quick way to lose money or gain a few bucks. Usually, if you just take the time to put a limit order in at the mid price instead of just going market on everything when you buy and sell.
Now I’ve got a hundred shares of Disney, right? That’s the first part of a covered call. Then you want to come back over here and we want to sell a call which sets up the second part of a covered call, okay?
First off, you’re going to want to go out in time. At least 30, 60 days or so is what most people do. What I typically like to do is look at the 12 month forecast by all the major analysts and there’s different software platforms and places you can look at that within ThinkorSwim, there’s some of that.
I have my choice, I talk about that in another video which I’ll link to below, but let’s just say that I want to go way out here and I want to go to January 17th, 2020, okay? Wow. It’s a long way away, but the cool thing is is that the premiums are so high and there’s so much time value in there that it’s just really buttered up for you.
For me, I like to just do the math with a covered call and say how much you know your typical return, great world with a great money manager is going to be like nine or 10%. Most people would be thrilled with that, right?
That means that I would make roughly 11, 12 bucks per year on this Disney holding. I’m thrilled if within, you know, a year and a half here from August 18 to January, 2020, if I can make 20%, man, I’ll sell it all day long at 20% because that’s really all you’re doing with a covered call is you’re buying a hundred shares of something and then you’re selling a call which then says I will sell my hundred shares at this price if this option is in the money, meaning the price of Disney is let’s say gone to 150 because that’s the strike and it gets exercised, right?
Or if it just expires in the money, it automatically gets exercised, but you also get to keep this premium which is going to be, let’s say it’s going to land at 198, we’ll call it an even $2, but it’s times a hundred right? It’s 200 bucks.
I would get to keep the 200 bucks so that brings my cost basis below. Actually, in this instance, when you sell it, it’s like selling it above 150 okay? There’s a lot of math that goes into it. There’s other better videos that can explain that. This is more just showing some things that I might do.
Anyways, if you just take, let’s see … Let’s just add on 20 bucks, that would be roughly 15 to 18% gain or something like that, right? At 135, I’d be thrilled to sell it, okay? That’s great.
Now, let’s bump it out a little bit more. Let’s go to 145 and I’m going to sell that right there and you can do this in one transaction. I just broke it up to show you, but you can save a couple bucks on the commissions if you do it in one transaction.
Again, see, if I just automatically just buy this at the natural limit price or even market, it’s going to be less than I could sell it for if I bump it up to the mid, okay? That’s the middle price between the bid and the ask.
I’m going to bump it up because every dollar here is actually like $10 at the end of the day when you do the math, you times everything by a hundred with options like this. I’m going to go all the way up to 265 and I’m going to confirm and sell, okay?
Now I have a covered call in Disney. If you go to our positions here and you can see that by the 100 shares I bought at 112 and then the call I sold 145 strike, January 17th, 2020 expiration. The 100 here on the end is saying it’s covering 100 shares per option, 520 days to expiration.
I sold it for 265. At the end of the day, this covered call, if Disney … First off, if Disney goes way up to 145 by January 17th, 2020, then the math … The cool thing about a covered call is like technically, this is going to freak out and like you’re going to … It’s going to look like you’re losing money and stuff on this option, but at the end of the day this stock is going to outweigh that if it goes up.
You’re going to end up being able to get out of it at 145 and then you add in the premium here you got for selling this option and you will not lose money is what I’m trying to say if it goes above 145 even though technically, though this option that you sold would start losing money, this is gaining so much money, the hundred shares that it makes up for it proportionately.
You’ll make a bunch of money basically if you go up even though to 145 even though this option might start looking like it’s losing money, you’ve made so much here, it doesn’t matter, okay? I’m thrilled if we break through 145.
I’m even more thrilled though if we get up to 140 or 142 or something like that and my style of doing covered calls, most likely, I’m selling this entire covered call way before any of this matters, okay?
Whenever there’s some good movement in the stock, if I can collect 50% of my proposed return here or maybe even less sometimes, then I’m moving out and I’m moving back into something else, okay? Now typically, I will wait and I will split up a covered call in terms of transactions.
I will buy the hundred shares. Then you don’t have to wait for the movement of a lifetime in terms of the stock moving down and it being a buying opportunity of a lifetime. I just wait for a down day to buy the stock and then and I usually do that first just because you don’t want to go and sell a naked call.
Most of the time, people won’t even … Brokerages won’t even let you sell a naked call. I can, but you have to like get level four options and all this stuff to be able to even do that.
I usually buy this, the hundred shares on a down day and then on the next up day like significant update, I’ll go and sell the call. Okay? Most people will do it all in one transaction, you do run a risk of there being some kind of weird gap there, but in a solid stock, you don’t have to worry about that.
Don’t do it around earning season or do it around earnings season if you want to play it that way. I do that a lot actually. I’ll sell a call if the day before earnings a stock is way up or like the options market thinks that it’s going to have a positive result on earnings.
Well, calls are through the roof, even leap calls or long-term calls. It’s a great day to sell a call if you already have the hundred shares in your account. Anyways, let’s fast forward a little bit. That’s the cool thing about this on demand platform with ThinkorSwim, there’s a few others like it, but this is the one I like.
You could even just go later this day. So if you see right here, I’m just fast-forwarding by 10 minute increments here. We’re now at 4:04 on August 15th. You can see here, $2 was lost, okay? But let’s go to the next week and we’ll go back a little bit to 2:04 on August 22nd, 2018, okay?
Wait for this to pre-buffer here and it’s going to show us what’s going on right here. Then I’m going to do a much longer fast-forward here in a second and cool. We’ve lost 46 bucks now. Okay?
Most people would be freaking out especially on a smaller account. I lost 46 bucks, what’s going on? Well, what’s going on most likely is that this stock has either not moved much or moved down a little bit or something since we bought it, but there just hasn’t been much action in the way of the bullish direction that we are predicting here that am or I mean that Disney will go up, but it won’t go up that much.
That’s basically what you’re saying with a covered call. Let’s fast-forward a little bit. I would go back if I was going to bore you to tears, I’d go back to December 2018 at the end of the year, right around Christmas and show you just how crazy the stock market can get and how much money you could have lost, but I won’t do that in this particular example.
I’m just going to go to March 29th or March 19th, 2019 at 2:05 Eastern and wait for it to buffer here and we’ve made 139 bucks, okay? Remember, you basically invested, what is that? $11,200 and then you sold this which is 265 bucks you’ve made already. What is that 1% or so? 1% okay, great.
Now, we’re going to go, once you start fast forwarding a little bit more, what’s going to happen is that time premium is really going to start getting taken out of that other option that you sold, the call that you sold.
Let’s see. Can’t go past a day. We’ll go to July. Disney stock should be way up. That call that you sold should be really decaying by now and there you go. Boom. 2,300 bucks.
Do the math on that return. It’s 20% man and the worst thing that could happen is that Disney goes down instead of up. That happens, right? Disney could have gone down. You could be down 2,300 bucks, instead of up 2,300 bucks, but you will have realized the full value of this call right here which is $200 and that probably would’ve happened a while ago.
You can sneak out of that by paying like a penny to get out of it because it’s not going to expire for a long time or even 5 cents if you have to just to get out of it.
Then, you can come back and start selling calls against this again and saying like, “Well, if it goes up 10% or 20%, if you want to just get out of it for whatever you paid for it, whatever it is.” Or if you’re like, “Actually, I believe in Disney and I believe it’s still going to go 145, then you would start selling those calls again or something higher.”
Just making sure that most likely, unless you’re happy with selling a stock at that price, that most likely, it’s not going to reach that price. Maybe just shy of it by the time that option expires.
That’s the whole goal. Remember, covered calls are typically not played as like aggressive moneymakers. It’s almost like you own like a condominium or an apartment with this hundred shares right here of Disney. You believe that this value, this land value, this stock is going to go up overtime.
You’re not trying to sell it and make it quick profit. You’re just holding it. While you own this condo as an analogy, you might as well charge a little bit of rent. Now, if it goes way above what you think it’s going to go above and it gets to that 145, then you’re willing to sell all of it at that crazy price because that’s just a phenomenal return and you’re thrilled with that.
That’s what a covered call is all about. Just one example, I could do a zillion of these all day long and at the end of the day, from my experience when I buy value stocks, usually in some kind of downturn, some kind of retraction period, and then I wait until it’s moving up and then I start selling calls against it, especially LEAP calls.
Then and it’s at a price that I would be willing to sell it up today or even at that date. Then usually, I make a lot more money than just the money I’m making from the increase from the actual stock going up overtime. All right guys, hit me up with questions below, tell me the good, the bad, the ugly.
Ask me questions about this. I’m happy to answer them. I love this stuff and subscribe if you found this valuable and you want to see some more videos like this in the future. Thanks guys.