Busted Covered Call

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HoldSideAnalyst

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What's the best way to deal with a busted covered call, assuming you remain bullish on the stock? Hypothetically, assume you sold calls Sep 30 calls when the stock was at 25, and it ran to 32. Delta is (at the moment) still about .6, so I can continue to bleed theta hoping the stock doesn't continue to run too far and perhaps retraces. What about buying some relatively cheap 35 calls to limit the risk of severely underperforming on the CC trade vs just long the stock?
 
I don't know - what were you trying to do in the first place, why didn't it work and what do you want to do now?
 
Ahhh... this doesn't sound like a "busted covered call". I wouldn't be to disappointed with the situation you described. Granted you gave up some upside when the stock passed your strike price, but you should've known what you were getting into. If this is truly a covered call, just let the stock have it's run 'til expiration and if your shares get called away get ready to play again; I, personally, wouldn't buy the 35 calls since this is a huge move to make in what I presume to be about a month. If you still like the stock and think it's gotten ahead of itself, sell the 30 puts after expiration if your stock gets called away.

This is very similar to the strategy I followed, except I would start with selling a covered put on a stock I liked. If the buyer excerised, I would turn around and sell a covered call. I had a very nice return for the year I was able to do this. I thought of it as running my own insurance company, and we all know only suckers buy insurance. :)

Also, I'm not sure why you said that you "can continue to bleed theta". Theta works to your advantage when you're a seller of options and is your friend.



Edited 1 time(s). Last edit at Thursday, April 12, 2007 at 08:10AM by no_slogan.
 
First , you just wrecked em and I would say it is time to buy the sept 30 put and move on to the next trade. If I wanted to stay long after a good run, I would buy the vertical.
 
HoldSideAnalyst Wrote:
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> What's the best way to deal with a busted covered
> call, assuming you remain bullish on the stock?
> Hypothetically, assume you sold calls Sep 30 calls
> when the stock was at 25, and it ran to 32. Delta
> is (at the moment) still about .6, so I can
> continue to bleed theta hoping the stock doesn't
> continue to run too far and perhaps retraces.
> What about buying some relatively cheap 35 calls
> to limit the risk of severely underperforming on
> the CC trade vs just long the stock?


I'm assuming you did this 1 for 1 and didn't delta hedge your stock with short calls (that really isn't a covered call... First, "bleeding theta" implies you're long the calls, and therefore paying theta. You're short calls so you're actually collecting theta which is a good thing all else equal. I personally think buying the puts is a bad idea because you're paying a lot of premium for downside when you're pretty bullish on the stock. If I were you I'd either be happy with your winnings or overwrite with the 35's/37.5's. Put it on your credit card if you have to....
 
This is how you adjust a covered call: Buy 10 of the 25 calls and write 10 more of the 30 calls. You will be short 20 of the 30 strikes, long 10 25 strikes, and long your stock. This gives you double exposure from 25 to 30, as the debit spread enhances your returns. Hopefull your stock pays a nice dividend also, for some extra $$$.
 
CFA420, Thanks, but doesn't that just leave me with a bull call spread and a capped covered call?

I understand "bleed theta" was a poor choice of words, but what I meant was allow the theta to run off the calls, and collect the maximum possible return on the covered call. Exiting the position today would result in a larger loss, also considering vol has increased because the stock has been running.

I consider delta hedging and writing covered calls to be different strategies.

Joey, we were trying to enhance returns on a stock for which we had moderate expectations in the near term. It didn't work because the blew out earnings and raised guidance. What I want to do now is participate in some of the current upside.
 
Why you gots to be so clever?

You obviously have no clue what the stock is worth or your covered call trade wouldn't have been busted!

Best advice: separate your silly trading strategies from valuation & investing

If you're going to invest, do it.

If you're going to trade then the underlying isn't so relevant.
 
Let's see, CFA420... If the stock closes at 32 on expiration, the following will happen:

- the original 10 lot will be exercised by the buyer and his shares will be called away; stock position = 0

- if Hold Side buys 10 of the 25/30 call spread, as you state, he'll again be flat the stock at expiration if the stock closes above 30. If the stock closes below 30, he�ll be long his shares but will now be long the 25 calls and it�s not clear that he wants to buy more shares, but rather simply hold onto his existing shares. Also, by purchasing the spread when the stock was at 32, he�d lose money if the stock closed below 30, which would eat into (and maybe wipe out) his profits from selling the 30 calls and. If the stock closes at 30, and Hold Side sells the 25 calls he bought b/c he doesn�t have cash to buy more shares� Look out!!! Gotta look out for the pin risk, baby!!


- I stand by the advice I gave earlier. Congrats on the nice trade, and ride it out �til expiration.

- Since I work in Compliance now I feel compelled to throw in a disclaimer :-)

THE ABOVE IS NOT TO BE CONSTRUED AS INVESTMENT ADVICE. PLEASE CONSULT YOUR INVESTMENT ADVISER. PAST RESULTS IS NO GUARANTEE FOR FUTURE RESULTS

SELLING OPTIONS IS RISKY; LOOK OUT FOR THE PIN RISK!!
 
So we've got virgin saying that this whole strategy is wacky and no_slogan who wants to turn a covered call strategy into, um, something with pin risk. It's pretty clear why no_slogan works in compliance not trading or risk.

Hold_side - there's no magic to this - it's about what you are trying to do within the context of your investment strategy and your expectations for this stock. I personally do not like covered calls because it seems like an odd ambivalence to me but it looks like you had your reasons for it (good value/low short-term vol). The second part of that turned out to be wrong. That means you were wrong on half the trade but the net is positive. All our trades should turn out so well.

If your expectations for the stock have changed, readjust your position accordingly. There ought to be considerations in that beyond what you can write on AF. I would say that trying to modify a position that you didn't get right in the first place is usually a bad idea because it means that your understanding of the stock isn't as good as you though it was. Take your profits, think about it, do it better the next time.

Or take no_slogan's advice and slink into the risk manager's office on Monday morning saying that you got the vol wrong the first time, modified the position according to advice you got on the Internet by a compliance guy, and somehow you got bitten by pin risk in the short position you somehow ended up with and the stock you really liked was up 32% in early AM trading. I can tell you almost exactly what conversation the risk manager will have with your supervisor later.
 
so maybe I misunderstood you. Do you like the stock or not. If you're bullish, double down and overwrite more or just move on and be happy selling the stock at 30 in Sep... And if you don't mind getting stuck with the stock, why would you care about getting pinned?
 
Umm... I think you read me wrong there, Joey. I was responding to what CFA420 wrote. Read it again and let me know where you need me to clarify...
 
A Compliance officer who knows everything about options - I have seen it all. Obviously, you know everything, yet know nothing. Apparently, you have never traded an option contract in your life, much less a portfolio of option posisitions. So please do us all a favor and quit grandstanding that you are some sort of an expert in this area.
 
Wow� I write a post criticizing what you wrote, and you write a post criticizing me. A little immature, don�t you think?

And for the record:

1) As I mentioned above, I�ve successfully sold contracts for my own personal account;
2) As I�ve mentioned in previous posts, I spent 4.5 years working on the CBOE floor, the last 2 working as the senior trading assistant for a DPM/Specialist, so I feel I can contribute to this discussion;
3) I generally only post here when I feel I have something to contribute or I have a question. In fact, I�m more than happy to admit when I�m wrong, so if you can do me a favor and set me straight on what I posted, and it makes sense to me, then I�ll concede that I�m wrong. Until that happens, I stand by what I wrote; and
4) I have no illusions of knowing everything and purposefully steer clear of topics I have no interest/knowledge about (MBA, job titles, analyzing job postings, etc). I�m not in the race to see who can post the most comments, as some people seem to be in.
 
no_slogan Wrote:
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> Umm... I think you read me wrong there, Joey. I
> was responding to what CFA420 wrote. Read it again
> and let me know where you need me to clarify...

You're right. I did read you wrong. So sorry. In particular, where the rubber meets the road we completely agree " Congrats on the nice trade, and ride it out �til expiration."
 
Joey you ever trade VIX options? I'm afriad I'll be back in here in a month asking when my 1x2 call spread is underwater when the VIX goes from 12 to 16.
 
Never traded VIX options although I was vaguely connected to a stat arb program that experiemented unsuccessfully using them to hedge dispersion risk or something.
 
JoeyDVivre Wrote:
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> Never traded VIX options although I was vaguely
> connected to a stat arb program that experiemented
> unsuccessfully using them to hedge dispersion risk
> or something.


Hahaha, gotta love it when people talk about using the VIX to hedge Disspersion. Up there with "Theta Neutral Correlation"
 
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