W&O with LEAPS

Greetings.

I was wondering if anyone has tried doing W&O (Covered Calls) with LEAPS instead of buying the underlying stock. I've been looking into it and considering that it might be a nice way to improve my return since I wouldn't have to tie up as much money in a trade. I'm going to continue reading about it, but I thought someone in this group might have something to offer.

Thanks.

Hey Kars. I would not anticipate you needing to use LEAPS if you want to trade options in a W&O style trade. Those trades are usually not longer than 1 month to 6 weeks. In the FWTZ you have the possibility of running some Chunky W&O however I would just buy the stock since you do not have to worry about any sort of expiration.

Are you using your W&O money for something else? I don't understand what you mean by not tying up as much money. The W&O account is for your retirement income. Using it to trade otherwise places it more in the risky category (hence the trading leg).....if you are only trading a certain amount of money from your W&O account then leave the rest safe in cash....nothing wrong with that. If you are going to do W&O with options, just trade with the market and buy 5-6 months out.....a lot cheaper than LEAPS. I generally do not buy anything more than 3-4 months out options wise and some of the heavier movers I will buy 1-2 months out. I have never had an issues with time decay.

Thanks for the response, Fireman. Let me try to be clearer.
In W&O you buy multiples of 100 shares of a stock. Ideally you wait for the stock to appreciate in value for some time.
Then you sell the corresponding number of call options of the same stock. This way you gain from both the appreciation of the underlying stock, but you also earn from selling the call option. In return, you agree to, effectively, cap the potential upside of the stock appreciation.

So the idea is to buy LEAPS instead of the underlying stock. The LEAPS options (is that proper grammar?) are the backer for the sold options providing some protection. You imply that LEAPS are more expensive - I think you mean in comparison to a medium-term option. That is true, of course. But LEAPS are much cheaper than the actual stock. Even LEAPS that are three years out from expiration are less than half the price of the stock. And depending on the stock (for instance blue chip stocks like GE and MSFT where you don't anticipate a great deal of volatility), there is actually very little difference in cost between a 3-year and a 2-year option. Since this method requires less capital outlay (since you are buying LEAPS instead of the stock), you are actually multiplying the potential return on the covered call. So even if you sell the calls right away - even a weekly option - your percentage return is effectively higher.

You would miss the dividends and would likely end up selling the LEAPS as expiration approached and also buy back the call options, there is some serious money to be made here in a pretty conservation/safe manner.

Does this make more sense? I am not doing this yet, but I am looking into it and am interested in any feedback on the idea.

Thanks.

Kars,

Taking a look at my WSB notes, Gary mentioned using LEAPS in both the Advanced and RTP classes. I have not been to any of the new format classes yet so I cannot comment on whether he still talks about them. All I will say specifically about LEAPS is that Gary said to use them successfully you have to be very good at the Printing Press technique. A cursory view of internet search results on selling calls against LEAPS shows there is a lot of free information out there. Good luck with your trades! Let us know how it works for you.

-Dan

Dan,

I took the advanced course, but I haven't been able to find the notes after a couple of moves. Hopefully I can track them down at some point. But I also remember him talking about LEAPS. I'm in the middle of changing brokerages so I can't trade at this moment, but I plan to post some results to these boards once I get going again.

My take is that on this forum we talk a great deal about trading (the trading leg) and hardly at all about the other two legs. I guess some folks are really good trading, but it is also the riskiest way to trade. So for many of us, a more conservative approach through W&O or small variations on that technique would be of great benefit. It also seems to be more in fitting with the goals and intents of this parent website which so graciously hosts this forum. If you see a positive trend from here and are feeling bullish, W&O can work great and provide a solid income, for people without a huge trading balance to work from.

For me, I am still several years away from being able to retire - regardless of any investing/trading outcome - that I am not in a big hurry to stockpile a great deal of cash. Earn 3-5%/month (or more) through W&O adds up very quickly to some serious money. So why not place focus there, too?

I would really like to see much more discussion on W&O on these pages and those types of trades that enable you to pull money from the market in a more conservative way.

Kars,

I cannot go into a lot of detail due to NDA but using LEAPS for W/O instead of the underlying stock was mentioned in one of the more recent classes (Survival Series vs. the old 1-5). I do not recall if it was part of the planned discussion or if it just came up. For full disclosure I have not attempted using LEAPS for W/O but it makes sense. As with any new approach one should start small to test the water. It only makes sense if someone is currently using $50K for W/O that they drop down to maybe $10K or whatever their comfort. The one caveat with LEAPS is that you have to make up the spread to break even. I do recall that someone should be decent with normal W/O first before attempting LEAPs. Beyond that I would suggest buying deep in the money (several strikes) to get as much of a dollar-for-dollar movement as you can to the underlying. It is still cheaper to pay $30 to $40 per LEAP than $100 per share. Good luck and keep us posted.

NCT

Kars,

If you still have or can find your WSB Advanced Class workbook, pages 4 - 9 are specifically on Selling Calls Against Leaps. Complete with details of the Setup, Risk, a Generic Example and Worst Case Scenario.

WIP

Thanks, WIP. I actually located my old workbook and accompanying personal notes for the Advanced Course a few days ago. I've read them over a couple of times. It gives me something to think about.

I will say that I don't quite understand his point about having to be very proficient at the Printing Press in order to do this. I've never been in a room with Gary - I did the courses over the internet a few years ago when that was still an option. But I wouldn't dream of questioning him in person. I'm not interested in having my head ripped off in public. That's happened plenty in my day job.

Thanks for the reminders from NCT and WIP.

Being good with printing press simply means you must be good at seeing the ebb and flow of the stock. You know it will rise from point A to D. It may decline once it hits B but then continue up once it hits C to eventually break B and reach D. If you buy the stock you can hold it forever. If you buy LEAPS they will eventually expire, cost significantly more than options we trade, and you still have to make up the spread. Good at printing press means good at reading the charts to the point where you KNOW this is a trade and you elect to use LEAPS to maximize your gains vs. buying the stock. Just my interpretation. My personal view is that you should be decent at normal trading leg options and normal W/O. Once you are consistent with normal W/O then step out to test LEAPs slowly. Best of luck!

NCT

Thanks, NCT.

It turns out TastyTrade discussed the initial idea of this post: the idea of using LEAPS instead of the stock for W/O - they just call it Poor Man's CC.

This video explores this very question: [www.tastytrade.com]

My question is why wouldn't you scale up with the poor man's CC? Maybe you don't go to the same scale as a normal CC, but why not up some and not just 1 contract? What am I missing?

I haven't watched the video so this is just an opinion based on memory. Just what I now about TT and their thought process. Since they are statisticians they believe in more observations (i.e., little trades.). TT would prefer to see you make 10 trades using 1 contract vs 1 trade using 10 contracts. A better representation is 100 using 1 or 50 trades using 2 contracts vs 10 trades using 10 contracts. The more trades you to do the more you increase your chances of hitting the expected probability of success (mean reversion). That's why it is impossible, without a monster account, to make money their way if you are paying $9.99 plus a contract fee. Commissions would eat you up. I believe that's why they negotiated a flat $1.50 per contract fee with TDA for their students. Just a sidebar :-)