This market has been tough to navigate, to say the least. After all, it’s not easy to watch your stocks gain 5% one day and give back 6% the next. It’s even more challenging for options traders, who may get stopped out of a promising trade at a 30% or 50% loss, only to see those options recover later that same day … which would have been great if only they were still in their positions!
As options traders, we typically benefit from volatility. But although there are nice returns to be made during periods of uncertainty, many option strategies are not suitable or just don’t make sense in choppy markets like we’re experiencing now.
However, if you’re seeking some safety, and/or looking to make some income from the stocks you own or want to own, there’s one option strategy that makes perfect sense in any market: the covered call.
A covered call is when you buy, or already own, stock and at the same time sell call options against your long shares. It’s like collecting a reward for holding shares long; selling calls against your stocks puts money in your pocket instantly and can be done every week (or month, if your stock offers weekly options).
Another benefit of a covered call is that it is like purchasing the stock at a discount rate. The credit received from the short call offsets the purchase price of the shares of stock. In essence, the short call lowers the breakeven point on the trade. This is especially beneficial if the stock drops in price, which is prone to happen in an up-and-down market.
Today our OptionsZone experts have five powerful covered call trades that you can make right away. Let’s take a look at them now.
Trade #1 — Visa
Recommended by John Kmiecik, MarketTaker.com
Visa Inc. (NYSE:V) looks like very viable covered-call candidate right now. Many of us are quite aware that the company provides payment solutions for the credit and debit programs of financial institutions. The company is currently very sound fundamentally, which is good if you own, or want to own, the shares.
The stock has recently broken out of a downtrend and is now trading above the daily 8-, 20- and 200-day moving averages, which can be construed as a bullish sign.
Visa has some support at the $88 level, which it is trading just above right now. The stock should have some trouble falling and staying below that level as long as the market does not become extremely bearish.
The stock has resistance in the $93 area, which makes for a legitimate short-term target. The company is expected to announce earnings on Oct. 26. In this case, choosing an option with October expiration date is a good strategy, because the options will expire before the earnings date and you’ll be able to avoid the uncertainty of the sometimes-volatile announcement.
Here’s the setup:
Example: Buy 100 shares of V @ $90.51 and sell 1 Oct 92.50 Call @ 1.00
Cost of the stock: 100 X $90.51 = $9,051 debit
Premium received: 100 X $1.00 = $100 credit
Maximum profit: $299 — that’s $199 ($92.50 – $90.51 X 100) from the stock and $100 from the premium received if V finishes at or above $92.50 @ October expiration.
Breakeven: If V finishes at $89.51 ($90.51 – 1.00) @ October expiration.
Maximum loss: $8,951, which occurs in the unlikely event that V goes to $0 @ October expiration.
The main objective for a covered call strategy is for the stock to just rise up to the sold call’s strike price, which in this case is $92.50. The stock moves up the maximum amount without being called away and the sold call expires worthless.
If the stock drops in price more than was anticipated, it might make sense to close out the entire trade (stock and short call) to avoid further losses.
Be careful and trade smart!
Trade #2 — Citigroup
Recommended by: Chris Johnson & John Lewis, Editors, The Winning Edge
Citigroup (NYSE:C) has been a beleaguered stock. It’s down around 40% for the year and 46% from its January high. Just for perspective, the stock is down around 95% from its all-time high.
While low can always get lower, C’s chart has been looking up of late. The shares appear to have found a base around the $25 level, and the stock is up a whopping 30% from the multiyear low it reached just last week.
Currently, the stock is trading at the $29 level, as it duels with its overhead 50-day moving average. A break above this trendline leaves plenty of upside room to run.
At the current stock price, you can sell an Oct 30 Call for 90 cents. If the stock breaks above the 50-day and you get exercised, you’ll sell at $30 and keep the option premium. That nets a return of more than 6% in less than two weeks.
If the shares decline, you’ve bought around 2.8% of downside protection. And the 20-day moving average sits underneath, ready to lend support if the stock weakens.