38 lines
3.0 KiB
Plaintext
38 lines
3.0 KiB
Plaintext
76 Part II: Call Option Strategies
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Technical analysis may be able to provide a little help for the writer faced with
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the dilemma of rolling down to lock in a loss or else holding onto a position that has
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no further downside protection. IfXYZ has broken a support level or important trend
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line, it is added evidence for rolling down. In our example, it is difficult to imagine
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the case in which a $20 stocksuddenly drops to become a $16 stock without sub
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stantial harm to its technical picture. Nevertheless, if the charts should show that
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there is support at 15½ or 16, it may be worth the writer's while to wait and see if
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that support level can hold before rolling down.
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Perhaps the best way to avoid having to lock in losses would be to establish posi
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tions that are less likely to become such a problem. In-the-money covered writes on
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higher-priced stocks that have a moderate amount of volatility will rarely force the
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writer to lock in a loss by rolling down. Of course, any stock, should it fall far enough
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and fast enough, could force the writer to lock in a loss if he has to roll down two or
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thr..ee times in a fairly short time span. However, the higher-priced stock has striking
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prices that are much closer together (in percentages); it thus presents the writer with
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the opportunity to utilize a new option with a lower striking price much sooner in the
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decline of the stock. Also, higher volatility should help in generating large enough
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premiums that substantial portions of the stock's decline can be hedged by rolling
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down. Conversely, low-priced stocks, especially nonvolatile ones, often present the
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most severe problems for the covered writer when they decline in price.
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A related point concerning order entry can be inserted here. When one simul
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taneously buys one call and sells another, he is executing a spread. Spreads in gener
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al are discussed at length later. However, the covered writer should be aware that
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whenever he rolls his position, the order can be placed as a spread order. This will
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normally help the writer to obtain a better price execution.
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AN ALTERNATIVE METHOD OF ROLLING DOWN
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There is another alternative that the covered writer can use to attempt to gain some
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additional downside protection without necessarily having to lock in a loss. Basically,
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the writer rolls down only part of his covered writing position.
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Example: One thousand shares of XYZ were bought at 20 and 10 January 20 calls
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were sold at 2 points each. As before, the stock falls to 16, with the following prices:
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XYZ January 20 call, ½; and XYZ January 15 call, 2½. As was demonstrated in the last
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section, if the writer were to roll all 10 calls down from the January 20 to the January
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15, he would be locking in a loss. Although there may be some justification for this
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action, the writer would naturally rather not have to place himself in such a position.
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One can attempt to achieve some balance between added downside protection
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and upward profit potential by rolling down only part of the calls. In this example, |