38 lines
3.0 KiB
Plaintext
38 lines
3.0 KiB
Plaintext
142 Part II: Call Option Strategies
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this point, even if the stock did finally decline enough for the last set of calls to expire
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worthless, the overall strategy might still have been operated at a loss.
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Example: The basic strategy in the case of rising stock is shown in Table 5-3. Note
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that each transaction is a credit and that all ( except the last) involve taking a realized
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loss.
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This example assumes that the stock rose so quickly that a longer-term call was
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never available to roll into. That is, the October calls were always utilized. If there
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were a longer-term call available (the January series, for example), the writer should
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roll up and out as well. In this way, larger credits could be generated. The number of
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calls written increased from 5 to 15 and the collateral required as backing for the
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writing of the naked calls also increased heavily. Recall that the collateral require
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ment is equal to 20% of the stock price plus the call premium, less the amount by
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which the call is out-of-the-money. The premium may be used against the collateral
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requirements. Using the stock and call prices of the example above, the investment
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is computed in Table 5-4. While the number of written calls has tripled from 5 to 15,
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the collateral requirement has more than quadrupled from $5,000 to $21,000. This is
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why the investor must have ample collateral backing to utilize this strategy. The gen
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eral philosophy of the large investors who do apply this strategy is that they hope to
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eventually make a profit and, since they are using the collateral value of large securi
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ty positions already held, they are not investing any more money. The strategy does
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not really "cost" these investors anything. All profits represent additional income and
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do not in any way disturb the underlying security portfolio. Unfortunately, losses
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taken due to aborting the strategy could seriously affect the portfolio. This is why the
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investor must have sufficient collateral to carry through to completion.
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The sophisticated strategist who implements this strategy will generally do
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more rolling than that discussed in the simple example above. First, if the stock
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drops, the calls will be rolled down to the next strike - for a credit - in order to con
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stantly be selling the most time premium, which is always found in the longest-term
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at-the-money call. Furthermore, the strategist may want to roll out to a more distant
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expiration series whenever the opportunity presents itself. This rolling out, or for
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ward, action is only taken when the stock is relatively unchanged from the initial
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price and there is no need to roll up or down.
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This strategy seems ve:ry attractive as long as one has enough collateral backing.
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Should one use up all of his available collateral, the strategy could collapse, causing
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substantial losses. It may not necessarily generate large rates of return in rising mar
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kets, but in stable or declining markets the generation of additional income can be
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quite substantial. Since the investor is not putting up any additional cash but is uti- |