Tag Archives | options rookie

Covered Calls: Bullish or Bearish?


You said selling a covered call is bullish, I think it is bearish. By selling you are making a “bet” that the strike price is too high. Buying a call would be a bullish bet.


Your perspective is somewhat unusual – I’m not saying it’s incorrect – just that it’s different.

I also see that you don’t recognize that options can be used to hedge, or reduce the risk of owning an investment. To you, options are to be used only for speculation. You are free to use options that way, but you are losing out on some of the characteristics of options that makes them so special.

I consider this discussion to be important to the options rookie who is looking for a solid options education.

Without any market bias, these statements about a covered call position are all true:

  • The position is delta long
  • The position earns money when the stock moves higher
  • The position loses money when the stock moves lower
    • Those are NOT the characteristics of a bearish position.

      Profits are limited for the covered call writer

      • That is not bearish
      • It’s a trade-off. The stockholder collected a cash premium now in exchange for potential profits above the strike price later
      • Consider the trader who buys stock and sets a profit target. That’s a bullish trader
      • That’s exactly what the covered call writer does. He/she sets a sell price and collects a cash premium
      • A bearish trader would NOT own stock

      The wager

      Is the bet really that the strike price is too high?

      That is overly simplistic and tells me that you use options purely to speculate. By wring a covered call, the stockholder sells someone else the right to all profits above the strike price – for the lifetime of the option. In exchange he/she gets paid today.

      That’s not bearish. It is a ‘bird in the hand’ investing style. The trader takes the option premium now instead of possible profits later. It’s not a wager to be won or lost. It’s a trade. If the stock goes much higher, that’s a good result. The stockholder wins. From you speculative thinking, the stockholder loses. I do not understand how you can survive as a trader if you are not happy with a profit – just because you could have earned more money had you chosen a different strategy.

      I’m thrilled to write a covered call and be assigned an exercised notice. That’s a winning trade. More than that, it’s the best possible result – after I decided to write the covered call.

      The bullish bet

      Owning stock is a bullish bet. If the stock moves higher, the trader earns a profit.

      Buying a call option is a bullish bet. Yet, if the stock moves higher, there is no guarantee that the call owner will earn a profit. There may even be a significant loss.

      Owning a call may give the trader a chance to make money on a rally, but far too often the trader buys the wrong option (strike price too high) or pays too much for time premium (rapid time decay that hurts the option’s value when the stock price does not increase quickly enough).

      Leverage works both ways. An inexpensive call option can return a large profit, but it can also expire worthless, even when the stock has rallied.

      Buying at the money or out of the money calls is highly speculative, and it takes the right set of conditions to deliver a profit. If the calls are deep ITM, that’s a smarter play. However, I’m certain that’s not the idea you were suggesting.

      Thanks for sharing your thoughts.

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Follow up: Real Life Iron Condor Trade


Great post as always. I know this would be a bit labor intensive, but is there any way to show a cumulative P&L and risk vs. return for this group of trades?

Thank you Burt, but I have no way to collect the data.

Risk vs. return does not apply. There is no 'return' to measure.  The P/L for one day's closing prices bears no resemblance to prices you get when making real trades to exit.

Neither is there risk to measure. I assume it can be done, but I have no idea how to determine risk for holding a position for a few days or weeks.

For educational purposes this is probably one of the best posts I've read. It provides one with a lesson on how complicated from a risk perspective and number of trades to maintain a position one might want to get. It also makes me wonder whether the opportunity cost (not to mention the trading costs) associated with so many adjustments is worth it relative to a risk-adjusted return.

I don't understand what you mean by 'opportunity cost'.  When you make the original trade, you have no idea what lies ahead or how else the money might be put to use.  I see zero opportunity cost.

You have money to invest.  Then you must select your trade(s).  How else can you operate?  If you don't like the idea that managing iron condors involves serious work, then don't trade iron condors.

Even if you don't go through the P&L, what is your sense of the cumulative risk relative to the after tax and trading cost return?

After tax?  I don't see that either.  All earnings are taxable.  That is independent of the trade.  All I am saying is that I have no idea what you are asking about taxes. 

Burt, there is no way to know the return or the costs before the trade is over.  And the next trade will be different.  My sense is that if you are a good risk manager you will like the return to risk.  If you don't want to bother managing risk, you will fail.  That's my opinion.

Trading costs should never be a consideration when trading.  If they are, you have the wrong broker or are choosing the wrong strategy.  Managing risk is far more important. I cannot imagine failing to make a needed risk adjustment because the commissions would be too costly.  When this trade was opened, our trader had no idea that he would be making so many trades or using as many commission dollars as he did.  Thus, risk does not change.  The risk associated with opening the trade is what matters. Sure tack on some extra dollars to the maximum loss to allow for expenses, but you never know the future.  At any point that risk/reward is no longer satisfactory, that's the time to adjust or exit.

Of course, "complicated" is a relative term. As a former market maker, this "trade" may seem rather rudimentary to you. Would you be able to tease out how "advanced" this number of trades appear to you. What I mean is that a true option rookie would not be likely to handle all the various decisions required. But with experience might approach the amount of adjustments that occurred. Where along the line of rookie to experienced trader would you place this trade?

Burt, there is nothing really complicated about any of the individual trades, and that's how we trade: One step at a time.

Nonetheless, I don't consider this entire series of trades to be suitable for the rookie. That said, if that rookie plans to trade iron condors, then it's important to have some idea of how to make adjustments, when to make them, and some ideas for possible adjustment trades.  This post offers that to any trader.  One cannot just open an iron condor trade and allow it to run to expiration.  There is almost no chance of avoiding blowing up a trading account if a trader adopts that methodology.

For the rookie, this post offers an opportunity to see adjustments made by a real trader.  The rookie can try to discover the rationale behind each move and think about whether that seems logical or misguided.  If unable to make that judgment, then it's a perfect excuse to paper trade iron condors and practice that (or any other) adjustment type.  The rookie is not born as a trader.  there is no substitute for experience.

The whole point behind a post such as that is to enable new traders to understand why the trades were made, how they reduced risk, and whether that specific adjustment is one that suits the individual trader's way of trading. 

There is nothing gospel about the traders choices.  Some traders, not fearing the downside, would have sold more puts when exiting current puts.  Another trader would wait, and then pay less for the puts.  Someone else might buy different insurance  when the trade was initiated.  Following someone else's trade is just an opportunity to see some trades in action and think about them.

To get the most out of this post takes a certain level of understanding about risk management.  That takes experience.  But this is the key point:  Even if your risk management skills are not yet well-honed, even if the idea of managing risk has never previously occurred to you, the idea that it's important to take some action to reduce risk is the idea that must be transmitted.  The rookie trader may not yet make the most appropriate or efficient adjustment, but any adjustment is better than none.  If the rookie learns that doing nothing is unacceptable, that's lesson enough.

So Burt, some of this is for advanced traders, but the concepts can help the rookie trader get a foothold into the idea of risk management and how important it is to survival.

Thanks as always,


You ask about cumulative P/L.  To me it's immaterial.   When you have a position – you have two choices: hold it or don't hold it.

How can it possibly matter whether the position is profitable?  You want it in your portfolio (good risk/reward from right this minute into the future) or you don't.  If you don't want it, exit the trade.

If you keep a position in your portfolio just because you do  ot want to exit and record the loss, then you are going to have a portfolio of high risk trades.  Why would you do that?  When you do not like the trade for any reason (perhaps you have already earned 90% of the maximum profit and are happy with that), get out.  Eliminate the risk and find a better trade.

You can agree or not.  It is gospel in my book.


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Selling a Call Option: What do you Get?

Once again a reader (thank you Debi) asks about something that goes beyond the typical education received by option beginners.


1) Let's say I bought a call and the underlying stock
moved down, dropping below the strike price. I could salvage
what is left of the contract by selling the entire position. How much
could I possibly get from trying to close the position early?

Is it
better to just wait until the end and hope for a miracle?

2) If I buy a call and the underlying stock moves higher, I sell the
option and make a profit: the difference between the price I paid and its current price.

I am confused. Do I get both intrinsic
value gain and the difference between what I sold it for and the
premium. How do you know what you sell it for?



1) It is seldom 'better' to hope for a miracle.  When all you can salvage
is $0.05 or $0.10, then you may as well go for the miracle.  Otherwise, selling the call option at a loss is a smart move.  It will not be the winning move 100% of the time, but on average you will be better off selling.

The questions are: when to sell and how much can you get.

When to sell

You bought the option for a reason.  You anticipated the stock would make a favorable move.  It doesn't matter what the reason was: if you change your mind and no longer believe the stock is going to make the move, or you believe the move has already occurred, sell the options.  There is no reason to hold them – and watch time decay kill their value – when your reason for buying the options is no longer valid. 

Repeat: You buy an option for a reason.  Do not hold that option when that reason no longer applies.

You must anticipate many losing trades when you buy options.

How much you can get depends on three factors:

a) Time.  If there is not much time remaining (when you change your mind and decide to sell), the premium is less (yes, that's obvious).

b) Stock price.  I'm sure you understand that the father below the
strike price, the less you receive. The option delta offers a
good estimate of how much lower the option price will move – if the
stock declines by one more point – today.

c) Implied volatility.  Some options (volatile
stocks) trade with a higher premium than options of tamer stocks.  If
you paid a relatively high price because this is a volatile stock, you can recover more cash than when the option is for a non-volatile

Bottom line: No easy answer, but selling when you change your mind is the correct approach.  There is no reason to wait.

2) The simple answer is you 'get' the current price.  You 'paid' what you paid.  The difference is your profit (or loss).

First, Let's be certain there is no confusion over terminology.  The 'premium' of an option is the price of the option.

Some traders mistakenly use the term 'premium' to represent the 'time premium' in an option.  The 'time premium' is the total premium (option price) minus the option's intrinsic value.


A stock is trading at $53 and the Jul 50 call is $4.20

Intrinsic value = $3.00 [$53 (stock) – $50 (strike)]

Time premium = $1.20  [$4.20 (premium) – $3.00 (intrinsic)]

Premium = $4.20  [option price]

When you bought the option, you paid a specific price (premium). 
When you look at the current bid/ask quotes for the option, you know
you can sell at the bid price – and perhaps a little above that

That's the best way to know what you can get when selling the option.  I assume by 'what you can get' you are referring to the price.  One word of caution:  It is best not to enter a 'market order.'  You will do better to use a limit order – just be certain it's a realistic price.  When selling, that means it should be nearer the bid price than the ask price.

If you just want to estimate the price you can get without seeing the current
market quote, then, you 'get' the current intrinsic value of the option
PLUS an unspecified amount of time premium. 

If expiration is nigh, expect that time premium to be less than if there were more time remaining.

If the option has a high intrinsic value (the option is far in the money), then the time premium is also reduced.

Regarding the confusion: 

In theory:

a) You do get the increase in the intrinsic value of the option

b) But you lose some time premium for two reasons

Time passed since you bought the option, and you pay for that time decay (theta).

The intrinsic value has increased.  Options with higher intrinsic value lose time value. 

It's difficult to explain in a sentence, but that residual time value is based on the likelihood that the option will move out of the money (if the stock tumbles).  The higher the intrinsic value, the less chance of that happening.  Thus, time value is reduced.

Bottom line: NO.  You do not get both items listed in your question. 
You get (i.e., the cash you can take to the bank) the current premium (price). 

Debi, you get ONLY the difference between your purchase price and sale price (less commission).  That is true for all types of trading.  Options are no different.  You can break up the option price (premium) into its component parts, but that is unnecessary. 

When you see the price that you can receive when selling the option (the bid) calculate the intrinsic value and the remainder is the time premium.  Based on your question, I believe what you want to know is: How can you determine the profit (or loss).  And that's the difference between price paid and price sold (then subtract commissions).

I hope you are familiar with the terms used.  If you are still uncertain, please request a clarification.



Lessons of a Lifetime, an electronic book (.pdf file).  My 33 years as an options trader.

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