COVERED PUT OPTIONS STRATEGY

I wrote and discussed this strategy as one of forum member (http://options.forum2u.org/) asking whether this strategy is good or not compared to Covered Call Strategy. Well, actually Covered Put strategy is just the opposite of the Covered Call Strategy...... it is a BEARISH STRATEGY. What you do is you sell SHORT the Stock to cover the Put that is written. Below is the comparison:

Covered Put Covered Call
Short the Stock Buy the Stock
Collect prem on write PUT Collect prem on write CALL
If assigned, deliver stock If called, deliver stock owned


The Covered Put is a neutral to Bearish strategy. So, the investor is expecting the stock to go down or stay constant. When the stock goes down, the Sell Put position will be assigned and and this covers the obligation of the shares of stock that were shorted (just like in the case of Covered Call where the owned stock is delivered for an exercise when the stock go up).

Investor will keep the Collected Premium and this premium is a cushion if stock goes up. However, it only covers the amount of premium and if stock is rallying, the LOSS will be maximum (due to Short Stock Position).

Despite this strategy is quite the same with Covered Call (just opposite), personally I do not suggest this strategy. Because we have MAXIMUM LOSS when stock goes up and as you know, there is no limit stock can go up. The potential loss is very enormous if this strategy is taken by an amateur/beginner (no tight cut loss).

It is different with Covered Call, when the stock goes down, investor always know that they hold a good/bluechip stock. And this is a good cushion that stock will not go down as big as market and can rebound very easily.

OPTIONS AS A SHELTER FROM TURBULENCE

Browsing into a magazine stand is one of my routines when I go to a bookstore. I used to start looking at the gossip celebrity magazines as this can clear my mind a little bit from daily job routine. After that I browse Newsweek, Time and Business Week. My eyes caught to the Special Edition of Business Week about Investment for 2008 that have publishment date on December 2007. It discussed about investment strategies and conducting interview to leading analysts. However, this is not make my attention get in through. Right in page 82, I struck with an article of Options as a Shelter from Turbulence……

To my surprise, the article does not discuss complex options strategy, but it just discussed about SELLING OPTIONS or WRITING OPTIONS. It stated that Covered Call can provide you big cushion when market is not going good. Well I must agree with this, since Covered Call Strategy is an Income Strategy from Options that will maximize overall return.

Say you have a blue chip stocks that went down due to the market condition. As we know, due to Subprime Mortgage Issue, market is “Bearish” and the FED is trying to use several monetary policy to tame it. As an individual stock, no matter how good is the fundamental, it usually affected by the market movement by around 60%-75% all the time.

Since that you have a good Blue Chip stock, do not sell your stock because of this condition. What you can do is Sell Covered Call Options. If you have 200 shares, you can do 2 lots of contract. Since the market is quite volatile, it is the time to REAP BIG PREMIUMS. Write on ATM (At the Money) positions, which the strike price usually have the biggest premium of Time Value. So, when your stock stays flat or decline a little bit, you will be covered by the rich premium from Covered Call. This is one of the excellent strategy if you own Blue Chip stock, you do not want to sell your stock and market is not doing good for you like now. If the market is still persistent trading in range, you can do Covered Call every month and still get the premium.

Someone will questions to you that if the market is rallying so you will loose opportunities for the capital gain and your stock will be exercised. Don’t worry……, there are many repair strategy that you can do such as Roll Over and Roll Up your position. And if you do on the right timing, you can even enhance your ROI. So, don’t worry about the market and do Covered Call to your Blue Chip stock portfolio.

BE AWARE OF JANUARY EFFECT

One of my favorite book is One Up on Wall Street by Peter Lynch. He is America’s number one money manager and he believes that average investors (like us) can become experts in their own field and can pick winning stocks as effectively as Wall Street Professionals by doing just a little research. Are you interested to know it? Well, you can search the book by clicking the Amazon Book Link (on the right block) and try to find one….

On his book, he mentioned about January Effect that investors must know and understand. January effect is a general increase in stock prices during the month of January. This rally is generally attributed to an increase in buying by bargain hunters, which follows the drop in price that typically happens in December when investors, seeking to create tax losses to offset capital gains, prompt a sell-off.

The January effect is said to affect small caps more than mid/large caps. This historical trend, however, has been less pronounced in recent years because the markets have adjusted for it. Another reason the January effect is now considered less important is that more people are using tax-sheltered retirement plans and therefore have no reason to sell at the end of the year for a tax loss.

What we should do with this January Effect? I believe just to see and prove it during end of this December. If the Small and Mid Cap stock price is falling based on this prophecy, well, there will be opportunities. Check on Russel 2000 index (RUT) to see the whole effect.

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THE MARKET (INVESTORS) BULLIED BERNANKE..?

It is very interesting phenomena. The Market is really a Veto Machine. We just can not do a “Fundamental Analysis” to see whether company is worth to buy or not. When the market crashed due to SubPrime Mortgage Histeria, many good stocks that have good earnings results were also Plummeted to new low. I saw this on Technology stock such as AAPL and GOOG. No matter how good the analysts view on these two stocks, 70% of their down performance were affected by the market.

The stocks and indexes were corrected and rebound again just because of “WHISPER” from the FED that they plan to cut the interest rate again about a quarter or half percent. Just because Bernanke and his assistant made commitments, market rallied quite vigorously.

My previous writing suggested that I will sit tight and see for market confirmation after the FED decided on lowering the interest. And it was right…., despite the FED cut a quarter point, the market was still “DOWN”, just because investors are expecting more than a quarter cut…..Don’t you think the Market Bullied Bernanke???

This is the third time Fed is cutting the interest rate in a row in order to make the econonomy active. Whether this move will be success or not, let us see what is happening in the near future, but everybody know that the INFLATION is a GHOST to the American Worker. So, who is benefit with this situation? Yes….. you bet, the Short Term Trader. The more volatile the market the better they are. However, it is not for Write Options Strategy. We really need moderate volatility in order make our position safer.

I still believe that during this period, Trade Small and look for market direction for confirmation. Don’t make any big bet since the signal is mixed à where the market rally does not conform with the Sub Prime problems. One week ahead is December Options Expiry date and maybe it is good to look opportunies on short tenor trading. As the VOLATILITY is HIGH, there will be good premium to SELL OPTIONS……