Charlie's recommendations for learning about Options

Discussion in 'The Archives' started by cheryl, Jan 22, 2003.

  1. cheryl

    cheryl Guest

  2. bigshot

    bigshot Guest

    Options are very very dangerous, be careful!
  3. charlie

    charlie Guest


    I fully agree that most options are dangerous and a good way to lose your money.

    However, I was trying to guide an individual to look at covered calls, which although they fall under the option catagory, are actually very conservative. In fact, if you are a long term by and hold investor, covered calls can help average out the price fluctuations, espessially in a sideways or down market like the one we have been experiencing over the past three years.

    The original question was regarding trying to protect UPS stock against a down move.

    Again, I would recommend staying as far away from regular options like naked calls, puts, spreads, straddles, collars, etc.

  4. hr

    hr Guest

    I would be most appreciative if someone could explain this strategy to me in layman's terms. Options have always been something that I thought of for people trying to "get rich quick" but I have recently heard that some people use them to hedge their UPS holdings. If I mention this to my broker he will probably try to sell me something so I would much rather hear it from an objective point of view.

    All viewpoints are welcome
  5. traveler

    traveler Guest

    The most conservative strategy is to sell covered calls. Example... UPS is currently about $62.00 give or take. You can sell someone (through your broker) an option to BUY your 100 shares at a set price at some future time (the expiration date) at a given price (let's say $70.00). Right now the option value for a UPS $70.00 option due in July (on the third Friday) is $0.50. So if your sell one contract (the right to 100 shares) you would receive $50.00 less commissions. This is unrealistic so let's say you actually sell 10 contracts (or the right for him to buy your 1,000 shares at any time between now and July 18, 2003). The buyer will not exercise that right unless the price of the stock exceeds approximately $70.50 (the cost for him to purchase plus what the option cost him. In the worst case you must sell the stock at $70.00 even if the value goes to $75.00 or $85.00 or $1,000 per share. You get $7,000.00 for your 1,000 shares. The bet you made is that by July 18 the price of the stock will remain under $70.00. If it does, you made $500.00 less commissions (about $40.00 for a discount broker) when the options expire "worthless". By the way, most options DO expire worthless!
    The strategy I use as a retired UPSer is to estimate when I will next need to sell some shares for living expenses and travel. I sell 10 contracts at close to the current price (let's say $65.00 right now) to get the most $$$ for my sale. A $65.00 July option is about $1.75 right now so you would get $1,750.00 for 10 contracts. If the price exceeds $66.75 my 1,000 shares will be called and I will get $65,000 plus I get to keep the $1,750.00 for the option I sold. If it never reached that price I just get to keep the $1,750.00.

    Puts are usefull to protect stock on the downside but I imagine you have enough to digest with calls.

    I hope you are not too confused by all this. I would suggest you get a booklet (usually free) from your broker and study "covered calls". Unless you are a true gambler and can afford a loss, stick to the covered call as an income strategy.
  6. charlie

    charlie Guest


    Thanks for explaining covered calls in a very simple and organized fashion. I use them to produce a monthly supplement to my normal cash flow. Normally, I only go 30 days out, or from one expiration to the next on UPS with a strike price of $65. I've only had to roll forward once, and that was when we went into the S&P. My goal has been to hang onto my UPS stock.

    HR....covered calls are a good way to go. I'd be carefull if your broker starts trying to talk you into collars or other products. The fees can be expensive and most other options can be very risky. Take a look at the books at the bottom here. I'd recommend the first one because it's a very simple read and a great introduction to covered calls.

    I have three more recommendations if you were to write (sell) covered calls on your UPS stock....

    1. If you are currently working at UPS, be sure to check with your controller or investor relations. If you are currently subject to blackout dates, I don't think you will be able to write covered calls on your UPS stock. Be sure to get clarification.

    2. If you want to hang onto your stock, be sure to become familiar with rolling forward and rolling up.

    3. However slight, there is always a chance that your shares will be exercised, (called away). The closer the price of the stock comes to your "strike price", the higher the chance becomes. If on expiration Friday, (the third Friday of the month), the share price is higher than your strike price, you can plan on waving bye bye to your shares unless you have rolled forward or rolled up. I would suggest that you not write covered calls on shares that you must not or cannot part with.

    Just a quick disclaimer......I have mentioned the books below several times today because they have helped me a great deal in regards to covered calls, however, I have no financial interest in them, although I wish I did![​IMG].

  7. traveler

    traveler Guest

    One thing I failed to mention is that the numbers I gave were for the most part accurate yesterday. These options are quite volitile and they may be very different day to day. Also, options are on a three month schedule but there are also monthly options. There is alot to consider and I have learned all I know by reading a few pamphlets and by trial and error!
    Though I have no financial stake in the books mentioned, I just ordered the first on on the list to increase my knowledge.
  8. bigbrown

    bigbrown Guest

    Is there a similar strategy to protect stock in a long term down market where the price moves along with the general market over a year or two?

    (Message edited by bigbrown on January 23, 2003)
  9. traveler

    traveler Guest

    The simple answer is yes. You can BUY "puts". It is pretty much the opposite of selling covered calls. You buy the right to SELL a number of contracts at a given price in the future. Example, UPS is at $62.00 you can Buy the right to sell (put it to) another investor at $60.00 or $55.00 or some other $$$ amount. If the stock goes below the "strike price" say it goes to $45.00 {aaarrrgggggg!!!} before the expiration, you have the right to get $60.00 for your shares in that contract.
    Some folks sell a call and buy a put on the same shares. It's cost is little or nothing depending on the structure. It protects you against loss but limits your potential profits.
    Being the eternal optimist and long term holder I don't spend my money on that (insurance) strategy, but it is certainly viable.
  10. lr1937

    lr1937 Guest

    Great Posts. It is interesting to hear what folks think about options. I am reading a book right now and these posts help. Thanks to all for the good posts and keep them coming. Can anyone suggest how to begin using covered calls through and online brokerage account. Is it possible to use small amounts at an online brokerage to learn?
  11. lr1937

    lr1937 Guest

    Where would I go to find out what covered calls are presently available on ups.
  12. traveler

    traveler Guest

    Calls and covered calls are in effect the same thing. With one you own stock to back up your position, with the other you don't have the stock and must buy it to satisfy the owner of the call should they excersize their right to take it.

    You should be able to get on E-trade or Schwab or some other on-line, discount broker to get the information. Some don't require you to have an account to access that information. It is kind of tricky when you look out there but on most sites you go to the "trade" area and within that the "options" area. There you put in the symbol for the underlying stock (UPS) for which you are looking and enter the "lookup". It usually asks if you want specific information or "all" as a default. I suggest you go with the "all" option.

    I believe you can also find sites like quicken and others to get that info. Anyone have more details?
  13. traveler

    traveler Guest

    Small trades get eaten up in commissions. A typical sale of one contract (the right to 100 shares of stock) for a UPS $65 expiring in February might have a cost of $0.20 (times 100 equals $20.00) The commission on that trade would virtually wipe out any profit.

    I suggest you try a strategy "on paper" i.e. make believe you sold 10 contracts at the going rate for any $$$ and expiration (keeping the expiration date close) and see what happens. You may get to keep the money (theoretically) or you may see the stock price exceed the "strike price" in which case you would have the stock taken (theoretically). This way you will get the feel of trading without any risk at all. In fact, try a few different $$$ prices and expirations and follow them. You will learn without the PAIN!

    When you gain confidence try a trade for perhaps 5 contracts but be aware that you are risking the sale of 500 shares or buying back the contract at a price above whay you sold if for.
  14. charlie

    charlie Guest


    Go to Yahoo Finance, My Yahoo or the Yahoo message board, input or click on ups. When the stock info comes up, click detailed, go to the bottom of the box and click on options, then scroll down. You can then select the month that you want to look at. Keep in mind that the info is delayed 20 minutes. Also, when I checked tonight, they were not listing March options which are available.

    You can also go to input UPS and click on quick chart. Then click on "options chain" toward the top in small print.
    This should bring you to the current month and then you can move around in there. You should be able to get real time options quotes if you have a brokerage account and computer access.

  15. charlie

    charlie Guest


    You can also use LEAPS, which are long term covered calls. I'm not as familiar with them and would have to refer you to someone with more knowledge before recommending you move forward, but will share with you what I can.

    I believe you can sell Leaps up to three years into the future. When I'm selling (writing) covered calls, I generally stay within a one month time frame. I do this so that I can make adjustments (roll forward, roll up, and/or buy back the covered calls) based on the share price of the stock. My goal is to hang onto my stock AND make some pocket change.

    Keep in mind that your down side is only protected up to the the amount of the premium you receive when you sell the LEAPS. As an can sell a January 2005 LEAP with a strike price of $55 for about a $12 premium (using round numbers)as of today. The option symbol for this is XPSAK. With the current price of the stock at about $62, This would give you protection down to a $50 share price ($62-$12=$50).
    On the other hand, if the stock was called sometime over the next two years, you would have sold it for $67 ($55+$12=$67). You would also want to account for brokerage commissions.

    The advantage to "selling calls' or LEAPS rather than "buying puts" is that the puts cost you money while the calls bring you money. The funds are deposited into your account at your brokerage (hopefully into an interest making money market account) the day you sell them.

    If you sell 10 contracts (1000 shares) at the $12 premium, $12,000 is deposited to your account and begins making interest until the transaction is closed out by the shares being called, or by you buying back the calls.

    Hope this is helpful in addition to travelers advice.
  16. charlie

    charlie Guest


    Hope you don't mind if I make a clarification here..........calls, meaning "uncovered" or "naked" calls ARE different than "covered" calls. With uncovered calls you can literally lose your shorts, which might be why they are referred to as "naked" calls. "Covered" calls are secured by the stock that you are holding, therefore you don't have to go into the open market to purchase shares if they are called.

  17. traveler

    traveler Guest

    No problem at all. I wasn't too clear on that point. What I should have said is that the $$$ received for selling a call is the same be it covered or uncovered. I did say that you must buy the stock to satisfy an uncovered call. What I didn't make clear is that the stock could cost you ANY $$$ amount ($70.00, $80.00 or $1,000.00 per share {I WISH}). Again, thanks for the clarification.
  18. does anyone know the stock symbol of sinotrans.
    can not find any info on it or the ipo.
    UPS is buying some of it.
  19. moreluck

    moreluck Guest

    Isn't is just on the Hong Kong Exchange ??
  20. bigbrown

    bigbrown Guest

    What do you think of this strategy? My broker has tried to talk me into this kind of transaction in the past and I just wasn't comfortable with it. Is it worthwhile?

    Hedging With Calls

    When market conditions create rapidly fluctuating stock prices, an investor may look for a more cautious approach to market participation. One solution is the Protected Covered Write, which will be referred to as a "Hedge Wrapper." This strategy is also known as a "Collar."

    A hedge wrapper entails the purchase of common stock, the sale of an out-of-the-money call, and the simultaneous purchase of a protective put.

    This strategy is a combination of the properties of a covered write and a put hedge. Upside potential allows for incremental returns. Downside risk is eliminated for the life of the contract, below the strike price of the put, as the put holder is entitled to sell the stock at that predetermined price.

    Let's look at an example which provides an idea of possible risk/reward scenarios:

    Buy 100 Shares XYZ @ ($34 per share) = + 34
    Sell 1 Six Mos. 40 Call = - 2
    Buy 1 Six Mos. 35 Put = + 3.70
    Net Debit = 35.70

    For simplicity's sake, this example does not include transaction costs, which have a significant impact on the outcome of option strategies.

    Assume that with 6 months to expiration, XYZ will pay 2 quarterly dividends of $.25 per share prior to expiration. Note: there is no guarantee that the dividends will be received, as it is possible that the short call could be assigned (the investor is obligated to sell the stock at the strike price) prior to the stock going "ex" the dividends.

    In this example, the investor has defined maximum risk and maximum reward. The following conditions result:

    Maximum Risk
    (Stock at 35 or below at expiration, the investor exercises the put.)

    The purchase of the put has assured a minimum selling price of 35 on the stock until expiration. The net cost on the position is 35.70 therefore, the maximum risk is .70 before dividends (.20 if both dividends are paid) and transaction costs.

    This example assumes the investor would close out both option positions at the same time.

    Maximum Profit
    (Stock at 40 or above at expiration, the investor's stock is called away.)

    As in any covered write, the maximum profit would be realized with the stock called away at the strike price of the call. In this case, the investor would sell stock at 40, which creates a profit of 4.30 before dividends (4.80 if both dividends are paid) and transaction costs.


    The dividends the investor may receive prior to expiration may be viewed as approximately 1/2 of a point in income. This would lower the cost basis of the position to approximately 35.20 . Transaction costs must be added to that figure to arrive at an actual break-even point. With the stock between 35 and 40 at expiration, the long put and the short (covered) call would most likely expire unexercised. The investor would have a loss on the put premium paid, and a gain on the call premium received, and would continue to own the stock unencumbered and unprotected. At this point, the stock could be sold out, held alone, "re-wrapped" with both a new long put and short call, or become the subject of either a put hedge or a covered write, depending on the investor's outlook at that time.

    An investor might notice as a matter of course that the maximum rate of return on a hedge wrapper is lower than on a covered write, as a result of the premium paid for the put. It follows that an out-of-the-money put, for example, could allow for higher potential returns as it would cost less in premium. An out-of-the-money put also provides less downside protection, thereby increasing the risk percentage in the position. This strategy may be tailored according to an investor's risk tolerance and upside objectives.