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Strategies & Market Trends : The Covered Calls for Dummies Thread -- Ignore unavailable to you. Want to Upgrade?

To: KFE who wrote (3305)	1/21/2002 12:39:49 AM
From: Dan Duchardt	Read Replies (1) \| Respond to of 5205

Hi Ken, There is a larger question about spreads in an IRA that we have discussed before that must be answered before considering doing spreads in an IRA even if some firm allows you to do it. I do recall our conversation about this quite some time ago. As you can infer from the present discussion, I did not get involved with it, or get any direct information to answer the questions that are resurfacing here. I am assuming that a brokerage firm that would allow you to do spreads in an IRA is figuring that the long side could always be exercised to cover. If you exercise the long LEAP you would be giving up any time value remaining and that would probably be substantial on a LEAP. There is also a more troubling potential problem in that a loan may have been created if the long exercise is not given on the same day as the short assignment which is more than likely the case. It seems to me that if exercising the long LEAP could be done on the same day, it should be even easier to outright buy the stock (if there are sufficient funds) that day and avoid the loss of the LEAPS time premium. That does not address the broader question that follows, but if we assume for the sake of argument that exercising the LEAPS on the same day is an acceptable remedy, buying the stock outright should meet the same time requirements and would generally be preferred. Am I missing something on this point? It is industry practice to allow this but I am not sure that this will fly with the IRS for an IRA account. If you feel the need to do spreads in an IRA then you should make sure that you have an answer to this question from the IRS before doing them. If you create a loan in an IRA the consequences are severe- you IRA account loses its tax exempt status. I was hoping after our earlier conversation I would eventually find something definitive one way or another on this issue. I never have come across it specifically, but I had come to a higher comfort level about it because of the rules for cash accounts in general that permit a broker to buy on your behalf as long as he knows you can pay up. The extra constraint for the IRA is that paying up has to be done with cash present within the account or generated by selling other things on the day of the purchase, not by sending more money. This was reinforced by an understanding of the specific rules that exist for an IRA I have with a very conservative broker that will not permit anything more than covered calls or protective puts for option trading. Under those rules, the sequence of intraday activity is of no consequence, so as long as the buy is done the same day of the sale to meet assignment I can't see a problem. But that's just my thinking, and I am most emphatically NOT the IRS. As always, a little knowledge can be a dangerous thing. Perhaps I let myself get too comfortable with the idea in the abstract. For many of you who might not have seen Ken's contributions to SI, I can tell you that he is the most knowledgeable person I have come across here about options strategies and how the industry operates. He definitely does not fit the "dummy" category, and we are fortunate that he chose to add his insight to this discussion. Dan