Subscribe Feed (RSS)The Technical Jargon
Now you may have noticed that so far I haven’t used any technical terms in describing this stock investing strategy. Like most things in life, brokers and other people in the financial industry have developed there own language when talking about this stock investing strategy.
So let me introduce you to the technical language. Please don’t be put off by the strange words; it’s really quite straight forward.
If you’re completely confused don’t be alarmed. It takes a while for all these new things to sink in.
Technical Description
The stock investing strategy we have been talking about is technically called; “Writing, out of the money, covered calls”. Pretty strange hey!
Well let’s just go through it and you’ll see that it’s really easy.
The word “writing” in technical speak simply means “selling”. We are selling the right for someone to buy our shares. So just replace “selling” with “writing”.
The term “out of the money” simply means that the agreed price, the price we have agreed to sell our share at, is higher than the current market price. So “writing out of the money” simply means that we are agreeing to “sell our shares at a price that’s higher than the current market price”.
The term “covered” simply means that we “own the stock” that we are agreeing to sell. You can also enter into an agreement on stock that you don’t own but that can be very risky and is not recommended.
The term “calls” simply describes the type of agreement. There are “call” agreements and “put” agreements. When you write a “call” agreement you are selling the right for someone to buy your shares. When you write a “put” agreement you are selling the right for someone to sell their shares to you. Don’t worry about the “put” agreement for now; we’re just looking at the “call” agreement.
So that’s not too difficult so far. Now lets complete the technical description. The technical term for the type of agreement we are entering is called an “option” agreement. I’m sure you’ve heard of options before and even if you haven’t I can guarantee you’ve used one before.
Ever bought something by paying a holding deposit? If you have, you bought the option to buy the item at a later date (that’s a call option). Do you have car insurance or house insurance? Well if you have, you have bought a put option. By paying the insurance premium to the insurance company, the insurance company has agreed to pay you an agreed amount of money if your car is damaged or your house burns down.
So options contracts are all around us in our everyday lives. BUT here’s a very important point. In the stock market, options are seen by many as very difficult and very risky. Well this is true if you are on the side of buying options. Buying options can make people a lot of money or lose a lot of money. It’s a business for only experienced people. Remember our analogy to the lottery company? Well the option buyers are the ticket buyers of the lottery company except that the stakes are much higher. Most people lose when buying lottery tickets and it’s the same with buying options.
We on the other hand with this stock investing strategy are “selling” call options. And we are selling them “covered” meaning that we own the stock and hence cannot get caught out with unlimited exposure.
OK now just a few more technical terms and then I show you where you can see what contracts are available.
We spoke earlier about the “price we agree to sell our shares at”. The technical term for this price is the “exercise” price.
We also spoke about the “agreed date” that’s the date the agreement ends or expires. The agreed date is called the “expiration” date of the agreement. The expiration date is the Saturday following the third Friday in the month. Though Saturday is the official expiration date,the third Friday is the last trading day. If the third Friday is an exchange holiday then the Thursday prior becomes the last trading day.
And finally we spoke about the fee that you receive and the technical term for this is the “premium”.
Pretty straight forward right.
So let’s sum up with an example. Here is a table from the Chicago Board Options Exchange (CBOE) showing some of the call options available for a company called Motorola. They’re the people who make cell phones.
| MOT (NYSE) | 15.8 | -0.78 | ||||
| Jul 18,2004 @ 18.54 ET (Data 20 Minutes Delayed) | ||||||
| Calls | Last Sale | Net | Bid | Ask | Vol | Open Int |
| 04 Aug 13.00 (MOT HO-E) | 2.9 | -0.6 | 2.95 | 3.1 | 41 | 122 |
| 04 Aug 14.00 (MOT HP-E) | 0 | pc | 2.15 | 2.25 | 0 | 18 |
| 04 Aug 15.00 (MOT HC-E) | 1.6 | -0.35 | 1.5 | 1.6 | 27 | 281 |
| 04 Aug 16.00 (MOT HQ-E) | 0.85 | -0.5 | 0.95 | 1.1 | 875 | 1527 |
| 04 Aug 17.00 (MOT HR-E) | 0.5 | -0.3 | 0.55 | 0.7 | 301 | 8205 |
| 04 Aug 18.00 (MOT HS-E) | 0.4 | -0.1 | 0.35 | 0.45 | 6 | 6132 |
| 04 Aug 19.00 (MOT HT-E) | 0.15 | -0.1 | 0.15 | 0.3 | 5 | 13375 |
| 04 Aug 20.00 (MOT HD-E) | 0.15 | pc | 0.05 | 0.2 | 0 | 6346 |
| 04 Aug 22.50 (MOT HX-E) | 0 | pc | 0 | 0.1 | 0 | 0 |
| 04 Aug 25.00 (MOT HE-E) | 0 | pc | 0 | 0.05 | 0 | 55 |
OK let’s go through each part of the chart and explain how to read it.
You’ll soon see that’s it’s not that hard to understand.
Starting in the top left area we have MOT(NYSE). MOT is the stock exchange code for Motorola and the stock exchange that the stock is listed on is the New York Stock Exchange (NYSE).
At the top right we have two numbers “15.8 and -0.78″. This is the current stock price ($15.80) and the price change from the previous day. So the current stock price is $15.80 which is down 78 cents from yesterday.
Next we have “Jul 18,2004 @ 18.54 ET (Data 20 Minutes Delayed)”. This gives the date and time that the information was retrieved. It also indicates that the information is delayed by 20 minutes. You can get delayed information like this for free but you’ll need to pay to get it live. For the stock investing strategies we are talking about, the delayed information is fine.
Now we have the table headings:
| Calls | Last Sale | Net | Bid | Ask | Vol | Open Int |
Calls refers to the type of agreement we are looking at. In this case “call” agreements. Remember when you sell a call agreement you sell the right for the other party to buy your shares at the exercise price on or before the expiration date.
Last Sale is the price the last sale of the call contract occurred at.
Net is the change from the previous sale.
Bid is the price that people are offering to buy the call options.
Ask is the price that people are offering to sell the call options. Notice the difference in the Bid and the Ask. Basically sellers, that’s us, what to get the highest price and buyers what to pay the least they can. At some point a seller will lower their price to a low enough level and/or a buyer will raise their price to a high enough level for there to be a match and the transaction occurs. This transaction then becomes the Last Sale price and on it goes.
Vol is the Volume or number of option contracts bought and sold for the day.
Open Int is the Open Interest in the option contract and gives how many options contracts are currently written. When you write a contract you will add 1 to the Open Interest amount. The contract you write however may be bought and sold many times during its life hence the Volume indicator.
If you want to read how the CBOE defines these as go here… CBOE Definitions. Be sure to come back though because we’ve got just a bit more to go through.
OK that’s the headings. Now let’s select a particular contract and see what it says.
The stock price is currently at $15.80. Our strategy is to sell “out of the money” calls and so we might choose to write, or in other words sell, the $16.00 call option. Here are the details of this option contract taken from the table above.
| Calls | Last Sale | Net | Bid | Ask | Vol | Open Int |
| 04 Aug 16.00 (MOT HQ-E) | 0.85 | -0.5 | 0.95 | 1.1 | 875 | 1527 |
Now what does this say. It says that we are writing or selling a call contract that has a $16.00 exercise price (the price you agree to sell your shares), that expires at the end of August 04 (the date the agreement ends). The code used to define this particular contract is MOT HQ-E.
The premium of the last sale was $0.85 per share (that’s the fee that you get); that is down 50 cents from yesterday. The current price that people are offering to pay is 95 cents and the price that people are offering to sell is $1.10.
The volume was 875 for the day, that’s the number of this particular option contract that were traded i.e. bought and sold. And there are 1527 option contracts open. That means that for this particular option contract 1527 are currently open and able to be bought and sold by others.
If you had written one of these contracts then your’s would be one of these. If you closed out your contract by buying it back (yes you can buy it back anytime) then this number would reduce by 1. Only the person who originally sold the contract (in other words opened the contract) can close it; although this one contract can be bought and sold many times by others, hence the volume figure.
So with this contract MOT HQ-E we are agreeing to sell our shares, that are currently priced at $15.80, for $16.00 if we are asked to by the expiry date (that’s the third Friday in August). For this we will receive a premium of between 95 cents and $1.10, depending on the prices at the time you sell the contract.
Let’s say you get 95 cents. 95/1580 is a 6% return for just over one month. And if the stock price rises to $16.00 or above by the end of August then we get to sell our shares for a further 20 cent profit as well. Of course if the stock price doesn’t get to $16.00 by the end of August then we can write another call for September. What do you think about that???
So you can see that it’s not that hard to read these charts and once you’ve seen a few of them it will become second nature to you.
You can look at the options contracts for any of the stocks you like by going to the CBOE website. Click here… Options Contracts then enter the stock code, tick the “List near term at-the-money options” item and then “Submit” and you’ll get all the options for that stock that are around the current stock price.
If you need to find out the stock code for a particular stock then click on the “Stock Symbol Look-up” tab.
OK we’re nearly there. Just a few more things to cover.
Firstly, there are some nuances to stock investing with options that you need to understand. Things like, how is the price of an option calculated, what happens to the price of an option as a stock dividend day approaches, what stocks are best for covered call writing and so on. I’ve given you the basics here but to make this work you need to commit to learning these things. Believe me, the rewards of making this stock investing strategy work for you with be worth you investing a little bit of your time.
So where to get this information. Well there’s lots of information around on this stock investing strategy. An excellent source of information is this book by Rick Lehman titled “New Insights on Covered Call Writing: The Powerful Technique That Enhances Return and Lowers Risk in Stock Investing”. Click here Bookstore then enter “covered calls” in the Quick Search Box.
If you want to get started even quicker then you can subscribe to a covered call service whereby you are recommended, on a weekly or monthly basis, specific call options to sell.
Here’s a covered call service that’s reasonably priced. You can actually trial this service for 2 weeks for just 99 cents to see if it suits your style… Stock investing service
If you want an homestudy course to learn this and many more strategies in the comfort of your home then this one is the best I’ve seen.
It covers the strategies I’ve shown you here plus many more. This course is focused on Positive Cash Flow from shares and comes with one year email support.
It’s great value because it covers 47 strategies and the support is procided by the Author, who is in fact a Fully Licensed Financial Advisor. To find out what’s in this course click here… Positive Gearing for Shares.
OK so now let’s ask you to make a decision…
Is this stock investing cash strategy the one that you want to start with in building you wealth machine?
If it is, and trust me that it is a great way to start, then go ahead and do something about it. Read some books from the Bookstore.
Or is you really want to get going fast, get this Paper-Trader software that shows you the strategies in a safe, simulated environment (it’s like a flight simulator but for the stock market)… Paper-Trader.
Disclaimer:
The information provided herein is NOT FINANCIAL ADVICE. It is educational material only. You must make your own decisions when investing and seek appropriate qualified investment advice. The author is not a financial adviser.
