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Responsible options ideas for people that can properly value stocks.



March 19, 2009 – Comments (2)

There are a lot of good investors out there that can properly value a company and know when to buy and sell. These same people shy away from options because of the perceived risk involved. Your the people I'm talking to. Even if you don't like my suggestions, you should still investigate options as a means of hedging risk, but that is a topic that I can't even do justice to in a small Blog post.

 OK there are 3 simple options trades that I'd like to mention. I only use the first one when I want to get in and out of a stock in the short term. It works better in Bull markets, but works just fine in Bear Markets provided that you've properly valued a company. The other 2 strategies work equally in Bull or Bear markets and I normally use the same strategies in combination several times on the same stock.


Strategy #1 Deep in the money calls. This is a good beginners strategy. The key here is to buy the deepest call you can find in a stock that you like and give yourself as much time as possible for it to go up before it can be called. When done properly, you have 2 advantages. The first is a high probability of success, (usually 80-90 %) The second advantage is that even though the cost of DITMC's  usually allow you control a stock for half the investment of buying the stock outright, the change in the call price almost mirrors the change in stock price. (You invest half as much money for the same return)The disadvantages are that you have a deadline to reap your reward. Also, it almost never pays to call the option tax-wise and you have to sell it before expiration. (consult your accountant). The 3rd disadvantage is that your basically acting as an insurance company.


Strategy #2 I use this in conjunction with strategy #3 over and over again! Your broker will not let you do strategy #2 unless you have a good history trading options though. Most of us track a stock and place an order to buy it at a certain price. I get somebody to pay me to buy it for the price that I want to buy it at.  I sell naked puts! Why? Because somebody pays me a premium to buy a stock at the price that I want to buy it  at! How many other times are you gonna get somebody to pay you to do what you want? If the stock price doesn't get to the price I want before the expiration date, I sell the put again and again until it does. Every time I sell a put that doesn't get called, I reduce my cost basis on the stock that I want to buy. All of you "No Free Lunchers" will point out that I have a risk that the stock drops way below my strike price and you would be right, but it's the same risk I take when I place an order to buy the stock at the same price with a broker.


Strategy #3 As soon as that stock hits my hot little hands, I sell a covered call if I can. I sell it for the price I want to sell the stock for and I try again to get somebody to pay for what I wanted to do anyway. If it doesn't get called, I do it again and again until I get the price I want. Again every option sale that doesn't get executed reduces my cost basis.


These are the simple options strategies and I use a few more advanced strategies on occasion, but the bulk of the money is made on the first 3 stratagies. I could get into straddles, strangles, and iron butterflies, but they won't make you the money these first three strats can if you can properly value companies.I sell covered calls for every stock that I own as long as somebody is willing to buy at the price that I want to sell at.


I hope this helps those of you that are wary of options and I encourage those investors that use the same stratagies to  add to this post.


Good Night and Good Luck.

2 Comments – Post Your Own

#1) On March 20, 2009 at 2:17 PM, ahobbs (< 20) wrote:

I’ve been using your strategies #2 and #3 for about 6 months now in an attempt to boost returns.  I really love the idea of using the options market to get paid to place limit orders.

To maximize the premiums I get from selling options, I will typically focus on selling put options if I feel the market has been over-sold.  Conversely, I will either sell call options or sell my stock position if I feel the market is over-bought.  I can’t recommend selling puts in an over-bought market, or selling calls in an over-sold market, because the stock price will usually go against you.  Unfortunately, I don’t know of a good way to measure whether a market is over-bought or over-sold, I typically just go on intuition.  

The other thing that I like to do with strategies #2 and #3 is to place limit orders, good for 90 days, to buy-to-close my put or call option at $0.10.  I place the order immediately after selling the put or call option.  It usually takes a long time for an option to go from $0.10 to $0, and it’s typically not worth the wait or the risk that the stock will plummet...

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#2) On March 21, 2009 at 12:46 AM, ChrisGraley (28.61) wrote:

I do the same thing ahobbs. Locking in your gains for .10 or .15 makes a lot of sense when you get the opportunity to resell the option even earlier.


As far as measuring the markets go, I prefer to try to properly value the companies. Once I feel that the market may have turned against me, I can always hedge by buying a put or call at a cheaper cost. Part of my process of buying is to try and find companies that are beaten up and oversold and I tend to be a little conservative when I sell. I'm usually more worried about market sentiment for a sector than I am for the overall market.

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