Covered Calls Portfolio

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big bang
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Covered Calls Portfolio

Post by big bang »

Charles Schwab adviser is telling my friend to invest in covered calls to generate income.
She was recently laid off and he suggested that kind of a portfolio will provide her with the income that she needs going forward.
What's that about?
Isn't that too risky and irresponsible to suggest?
(1) save a lot, (2) select an asset allocation containing both stock and bond asset classes, (3) buy low cost, widely diversified funds, (4) allocate funds tax-efficiently, and (5) stay the course.
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Re: Covered Calls Portfolio

Post by dollarbillz »

Anti boglehead, but I think it’s a fairly commonly employed strategy by options traders. Here’s some info: ... s/overview
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Re: Covered Calls Portfolio

Post by acegolfer »

It's not as risky as uncovered call. She will enjoy receiving premium up front. This is the income that he was referring to. However, the downside is, if the underlying stock appreciates, she can lose the potential gain.

Is it irresponsible to suggest? Covered call is a common legit strategy. But if he suggested it without explaining the loss of potential gains, then it was irresponsible. Hard to conclude without more context.
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Re: Covered Calls Portfolio

Post by jdilla1107 »

This has all of the downside of a stock position with none of the upside. If stocks go down, she takes a loss. If stocks go up, she misses the gain. (This trade off is offset by a payment.)

I think all of these option positions are just dumb ways to over complicate things; which is exactly what advisers feel they need to be doing to justify their fees.
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Re: Covered Calls Portfolio

Post by usagi »

Sorry I do not have any links, but in Dec I met with a Fidelity advisor who mentioned the studies he looked at only supported covered call strategies for those who want to sell their security. The essence of the comment was covered calls strategies tended to mute enough of the upside to impact overall return enough that you were better off simply holding a low cost index.
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Re: Covered Calls Portfolio

Post by EfficientInvestor »

It is a legitimate strategy. However, the answer to whether it’s an appropriate strategy for your friend would depend on many factors that are currently not on the table. We would also need to know what kind of fee they would charge. One index you could look at to see historical data of a covered call strategy against the S&P 500 is the CBOE BuyWrite Index or CBOE 30 Delta BuyWrite Index. Both are covered call strategies with different implementation. Take a look at pages 8 and 9 at link below to see historical performance. Both have had better return and less risk the the S&P 500 since mid-1986. The BuyWrite index would provide more income but would put more of a cap on your upside potential. The 30 delta BuyWrite would provide less income while sacrificing less upside potential. ... s-2019.pdf

This is a little more advanced, but my preferred route is to sell 30 delta calls to initially establish positions. Then I steadily roll them out and up (or down when needed) on an ongoing basis. If the stock market spikes up in a certain month, I don’t necessarily roll out and up to the 30 delta again (which is what the index does). Instead, I only roll up a fraction of the way (maybe 1/3) in hopes that I will recapture some of the intrinsic value of the option in the event that the stock market comes back down during the next month. I could stay underwater like this for months if the market keeps going higher. But over the long run, I’ll eventually catch back up and re-establish the 30 delta call.
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Re: Covered Calls Portfolio

Post by 123 »

If the calls you sell get exercised the sale of the underlying security you're holding creates a potentially taxable (or tax loss) transaction.
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Re: Covered Calls Portfolio

Post by alex_686 »

Covered calls carries a lower risk then just being long the securities.

It is valid Plan but I an skeptical. You should get about the same total return/ total risk if you upped your bond allocation. Taxes are a complex question. I would bet that this is a psychological ploy. If you sell covered call you won’t have to sell your stocks (principal).
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Re: Covered Calls Portfolio

Post by DWesterb2iz2 »

Ben Carlson and Michael Batnick just had an Animal Spirits podcast about this sort of thing ... -portfolio
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Re: Covered Calls Portfolio

Post by jhfenton »

DWesterb2iz2 wrote: Tue Feb 11, 2020 8:24 am Ben Carlson and Michael Batnick just had an Animal Spirits podcast about this sort of thing ... -portfolio
I'm halfway through the episode, and they've yet to ask him about the expense ratio of the Covered Bridge fund. So I looked it up: 1.48% for the I shares, 1.73% + 5.25% load for the A shares.

It's not a crazy strategy, and the fund sounds like it has a reasonable implementation. But those expenses!
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Re: Covered Calls Portfolio

Post by deltaneutral83 »

Covered calls are market timing and there's virtually no volatility right now in the market so the price of options are cheap. I don't think many people sell calls on index fund holdings anyway because the premiums are virtually nothing compared to the premiums taken in and the risk the market takes off is to high. You would lose your position while creating a taxable event (if exercised) if in a taxable or you would have to buy back the call you sold at a loss to avoid the taxable event.
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Re: Covered Calls Portfolio

Post by Uncorrelated »

Technically, buying and selling options changes the probability distribution of the outcome. It is not at all unlikely that you can increase the expected utility. However, doing so requires precise measurements of your risk tolerance and the markets risk tolerance, since the increase in expected utility comes from the difference between your and the market's risk tolerance.

I would fire this financial advisor. Pitching the idea that options 'generate income' to a beginner is irresponsible.
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