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Strategies & Market Trends : The Covered Calls for Dummies Thread
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To: PoetTrader who wrote (1174)6/21/2001 10:51:54 PM
From: bobkansas  Read Replies (1) of 5205
 
I will give you an example.

DELL, On June 6th, I sold 20 july $25.00 strike put options for $1.25 a piece. Net was $2417.91 after commissions.
I also bought 20 july $22.50 strike put options for .65 cents a piece. Net was $1,382.00. The net credit to my account was the 2417 less the 1382 i.e. $1,035.91.

I keep all of this i.e. the $1,035.91 by expiration in July IF DELL is above $25.00. I never own the stock. My techical analysis of DELL as of June 6th showed strong support in the 24-25 stock range. If the stock price shots way over the 25 area, I will likely close the transaction out before expiration as the time loss on those options will have already occured.

If, DELL is 22.50 or lower at expiration date, I will lose 5 k less the premium of 1035, i.e. $3,065.

Any price of DELL over 22.5 and under approx 24.50 at expiration results in some amount of a loss but not greater than the 3 k figure.

If DELL were at $18.00 a share by July expiration, I would have loss 14 k on the underlying stock (if I had bought it instead of doing the credit spread). Of course, the call premiums on a covered write of DELL at say the $25.00 strike price on June 6th would have helped but not saved me from significant losses.

Credit spreads are not a holy grail, but it does better risk management than a normal buy/write would do...and there is a chance you never own the stock.

The example above is a simple vertical credit spread.
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