Cl,apter 2: Covered Call Writing 53 
the return from cash. The farther out-of-the-money that the written call is, the big­
ger the discrepancy between cash and margin returns will be when the return if exer­
cised is computed. 
As with the computation for return if exercised for a write on margin, the return 
if unchanged calculation is similar for cash and margin also. The only difference is the 
subtraction of the margin interest charges from the profit. The return if unchanged is 
also higher for a margin write, provided that there is enough option premium to com­
pensate for the margin interest charges. The return if unchanged in the cash example 
was 7.9% versus 11.4% for the margin write. In general, the farther from the strike in 
either direction - out-of-the-money or in-the-money - the less the return if 
unchanged on margin will exceed the cash return if unchanged. In fact, for deeply out­
of-the-money or deeply in-the-money calls, the return if unchanged will be higher on 
cash than on margin. Table 2-11 shows that the break-even point on margin, 40.9, is 
higher than the break-even point from a cash write, 39.8, because of the margin inter­
est charges. Again, the percent downside protection can be computed as shown in 
Table 2-12. Obviously, since the break-even point on margin is higher than that on 
cash, there is less percent downside protection in a margin covered write. 
One other point should be made regarding a covered write on margin: The bro­
kerage firm will loan you only half of the strike price amount as a maximum. Thus, it 
is not possible, for example, to buy a stock at 20, sell a deeply in-the-money call struck 
at 10 points, and trade for free. In that case, the brokerage firm would loan you only 
5 - half the amount of the strike. 
Even so, it is still possible to create a covered call write on margin that has little or 
even zero margin .requirement. For example, suppose a stock is selling at 38 and that a 
long-term LEAPS option struck at 40 is selling for 19. Then the margin requirement is 
zero! This does not mean you're getting something for free, however. True, your invest­
ment is zero, but your risk is still 19 points. Also, your broker would ask for some sort of 
minimum margin to begin with and would of course ask for maintenance margin if the 
underlying stock should fall in price. Moreover, you would be paying margin interest all 
during the life of this long-term LEAPS option position. Leverage can be a good thing or 
a bad thing, and this strategy has a great deal of leverage. So be careful if you utilize it. 
COMPOUND INTEREST 
The astute reader will have noticed that our computations of margin interest have 
been overly simplistic; the compounding effect of interest rates has been ignored. 
That is, since interest charges are normally applied to an account monthly, the 
investor will be paying interest in the later stages of a covered writing position not 
only on the original debit, but on all previous monthly interest charges. This effect is 
described in detail in a later chapter on arbitrage techniques. Briefly stated, rather