Deep in the Money Calls as a Stock Substitute

Hello Mark:

I am awaiting your book, but I have read other authors, and I want to use a "Deep ITM" option to buy and control a stock, XYZ, a blue-chip company. This to control the stock at less cost than buying outright, while taking advantage of a near 100% delta relation between shares and option.

My intention is to sell a Covered Call against the shares, just above ATM, with the intent of assigning my shares (those for which I do not yet own, but hold an option) if the holder of my sold option exercises his option. I want to collect the difference in my option strike price and present price of the shares for my account, rather than just exercise my option to close the Call I wrote. Another goal is to own the right to buy my shares at a future time, at today's price, when I will have more cash on hand.

If my Covered Call is assigned, I am delighted. I will wait for another dip in the share price to buy another "DITM" option as above, as I want to own XYZ stock when the price is right.

For the short time I "pass-on" my assignment I would prefer not to have cash on hand.

I am sure this can be done, can you help me with the mechanics. Thanks-Joel

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Hello Joel,

Options for rookies is primarily an educational blog, so first let me correct some terminology for the benefit of other readers.

When you say: 'assigning my shares,'  it should be: 'exercise my options.'

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Next a discussion, then the mechanics.

1) Good use of a DITM call.

2) If you are assigned an exercise notice, it's a simple matter for you to exercise your DITM call. Even when it's prior to expiration.

3) But, if you want to collect any remaining time premium remaining in your call option, then you simply buy shares and sell your calls.  Pay attention to just how much time premium remains and don't ignore the fact that you will have to pay two commissions when you buy shares and sell the call, rather than one exercise fee (not all brokers charge this fee).

Keep in mind that if you are assigned an exercise notice, it's most likely going to be at expiration (or very near), and it's virtually 100% guaranteed that there will be zero time premium in your deep in the money call to collect. 

If that's the case, or if the premium is too little to justify any extra commissions, then simply exercise your call to offset the stock you sold when assigned.

4)  You have the correct attitude.  Being delighted when assigned is the winner's attitude.

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The Mechanics

1) Enter an order to buy a call spread.  The option you buy is (obviously) your DITM option and the one you sell is your slightly out of the money (what you refer to as 'above ATM') call.

Specify the debit for the spread.  That means how much cash you are willing to pay.  It's important to specify a debit because that makes the order a 'limit' order.  DO NOT enter a market order.  You can always (ok, at least 99% of the time) pay less for the spread than the price you see on your trader screen.

2) I assume the options both expire at the same time.  If that's true, there is no problem.

If the option you buy expires later, that's also not a problem - but from your strategy description, I don't believe that would be advisable.

3) If you are NOT assigned an exercise notice, and the option you sold expires worthless, you must either sell your DITM option, or exercise it and become a stockholder.

There is another choice (buy the calendar spread, moving your long option out one month.  If you do this, buy back the call you sold (at a very low price; $0.05) AND sell another covered call that expires in the same month as the new DITM call.

You cannot expect this strategy to work every time, and you will see the options expire worthless more often than you prefer to see that happen.

I want to mention, but assume you are aware, that this is a bullish strategy with a limited reward.  The potential loss is much larger.

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