 What's up everyone, Lee Lowell here from smartopsincell.com. Today is Saturday, February 18th, 2023. Moving on here and the dates. We're back for another free YouTube option trading strategy video. I do these just about every Saturday, taking my 30 plus years in the options trading business and making these free videos to help you become a smarter and more profitable options trader. I hear from a lot of you and I get a lot of requests for making certain videos. So today, as you can see on your screen right here, the smart option seller guide to covered calls. What is it? What's it all about? How do you do it? Why do you do it? So today, what we're gonna talk about is selling covered calls. And some of the best ways to do it, some of the strike prices to choose, the expirations to choose and actually how to go about doing it. So for those of you who are here or I should say watched last week's video, which was all about the wheel strategy. And the wheel strategy is when you sell a mostly at the money put option and in the hopes of getting assigned the shares, which would mean you would actually actually have to buy the shares. And then the next step in the wheel strategy is selling covered calls. So we kind of touched on the covered calls strategy a little bit last week, but in this week, we're gonna go a little bit deeper. And I'm actually gonna show you an example of a relative of my family who was able to capture $54,000 by selling covered calls. Now this is income that this person didn't know would exist or didn't know that they could actually do this. And so I'm gonna share with you a little story of how my relative was able to bank $54,000. That's a good chunk of money. So as we get towards more of the end here, I'm gonna share that story with you. So as I said, last week, we touched on this a little bit, but we always talk about selling put options for the most part, because that's what we do at the smart option seller. And before we actually dive right in, I wanna make sure we do this every week that everybody gets a free copy of our put selling basics ebook, okay? You go to our website, smartopsonseller.com, click on the put selling basics header right here, and you'll see the put selling basics ebook right in front of you, scroll down a little bit, put your name and email address right in here, and we will send you an email that contains a link for the free ebook. So please, everyone, go do this before doing anything else, get the free ebook. All right, let's go back to our topic of today, which is selling covered calls. We're gonna talk a little bit about what they are and why you wanna do it, and then we'll go into how you do it, and then we'll talk about the $54,000 payday. Now, selling covered calls is something that you can do as a stock holder, okay? As you read along here, for every 100 shares of stock that you may have in your account, you can sell what's called a covered call option. What is that? Well, as we know, all call options, whether they're put options or call options, consist of 100 shares of stock. And as long as you own in your account, 100 shares of stock, you can sell. We're not gonna buy, we're selling one call option contract, okay? So basically, you have 100 shares that you've bought, and this call option contract that you're gonna sell also has 100 shares in it, okay? So one will offset the other. And that's a way to make sure that you're not exposing yourself to unlimited risk. If you have 50 shares of stock and you try to sell a covered call, you're gonna be 50 shares exposed to unlimited upside risk. Because if you only have 50 shares and you actually have to sell your 100 shares of a stock, you're gonna be on the short side of 50 shares. You don't wanna do that. So, and a lot of brokers might not let you sell a covered call, depending on your approval level at the broker. So you have to have 100 shares of stock in order to execute this strategy. Now, down here, we talk about something that's called a buy-right strategy. So if you don't own 100 shares in your account at the moment, you can execute what's called a buy-right. That means you're gonna buy the 100 shares and sell that one single call option contract all within the same transaction. That's called a buy-right. So you buy the shares and you write the calls. Whenever you sell an option, a putter or a call, it's called writing the option. That's why it's called a buy-right, okay? So it's a very simple strategy. And I'm gonna move myself over here as we scroll down in the, as we scroll down here. So for every 100 shares you have, whether it's through a buy-right or shares of stock that you already have in your account, you can sell one covered call option contract. What does that do for you? Why would you even wanna sell a covered call? Well, number one, it brings an immediate cash into your account. Cash that you didn't have yesterday and cash that you may never know that could even exist. So for every call option contract you sell, that call option buyer is gonna pay you money for it. They're gonna pay you for that call option contract. And why would they pay you to sell in that call option contract? Well, basically what you're doing is you're obligating yourself to potentially sell your shares of that stock to the call option buyer. If it's profitable for them to exercise the option. And we're gonna talk about why that, where and why that would be, okay? So just so you know, selling options can bring in, will always bring in immediate cash into your account. So right here, the sale of the call option provides immediate income and also sets a potential sale price for your shares. It obligates you to sell your shares. So if you've bought shares of stock and you know there's a price point where you'd be willing to get out of your shares or sell your shares, you might as well sell a call option contract where someone will pay you to take your shares away from you. Otherwise, you're just sitting there with 100 shares of your account in your account and hopefully waiting for that price point to be hit. Let's just say you bought shares at 100 and you wanna sell them at $120 a share. Well, you're just gonna sit there and wait for the stock hopefully to get up to $120 a share and then you can sell your shares. But in this case, by selling the 120 strike call option contract, you're using your time and money more efficiently. You're basically saying, okay, I'll sell my shares at 100. So I'll sell a call contract to somebody at that 120 strike. They'll pay me for it. So instead of just sitting there doing nothing with your shares, hoping that the stock will get up to 120, which you know it may never get there because the stock could actually drop. At least you're being proactive with your time and selling a call option contract to somebody else and getting money for it. You know, you're still gonna sell the shares at 120 if the stock gets up there. You might as well let someone pay you some money for it in the meantime, okay? So let's scroll down here. Now as we know, we're talking about you have 100 shares of stock and now you have a call option contract that you want to sell or that you're going to sell and you're gonna get money for it. Two things that you have to think about at this point is what strike price of the call option am I going to choose and which expiration should I use, right? So if you bought the stock at 100, do you wanna sell the 105 call, the 110 call, the 120 call, the 150 call, you have to decide and as we know, all options have an expiration date. So you have to choose the expiration. So as we scroll down here, you know, which strike price should you pick? And that's always a personal preference. It really comes down to what price would you be comfortable relinquishing your shares if the stock actually got up to that price level? So once again, if you bought the stock at 100, where would you be okay letting go of the shares? Because if you let go of the shares at 120, the stock could keep going up to $150, $200, you never know. So you have to be comfortable with taking a profit. It will always be a profit. If you bought the stock at 100 and you sell at 120, that's a $20 profit, right? So you have to decide where would you be okay relinquishing your shares? Now some people never want to relinquish their shares. They want to keep holding the stock, but yet they want to sell the call options to get the income. So in that case, you have to make sure you sell or choose a call option strike that the stock really has no way or there's not a big chance for the stock to get to that level. So you'd have to relinquish your shares. In that case, you can use a probability calculator to give you an idea of, you know, what's the chances of the stock moving from 100 all the way up to, you know, 150, let's say, and I'll show you the probability calculator in a second. So basically, once again, you have to figure out what price you'd be okay relinquishing your shares. And if you don't want to relinquish your shares, then you have to choose a more out-of-the-money strike. Okay, out-of-the-money strike means that the stock has to travel further to get up to that level. And let me see if I have this written down here. Okay, so which expiration to choose? Well, number one, the further out in time you go, the more money you will get for that option. And we're going to look at an option chain. I'm going to show you some option prices. But the longer out in time you go, you're getting more money for that option. But at the same time, you're giving the stock more time to potentially get up to your strike price, whether you want that to happen or not. If you don't want that to happen, you may not want to choose a very long dated option because now you're giving the stock more time to rally up to the strike price, okay? So here, let's see, right up here, the further out-of-the-money strikes have a less chance of being hit, but they provide less income, right? The further out in the strike prices you go, meaning that the stock has to travel more, the less money someone's going to pay you. So you have to find that tipping point, that balance point where you're okay with the amount of money you get. You're okay with the potential price of relinquishing your shares versus how much time you're willing to give, okay? It's sort of a balancing act, and we'll look at the option chain. Let's go through our list here a little bit more. So the other thing is that, let's just say you sold the call option contract, I'm right down here on this one, and all of a sudden the stock starts driving higher and higher and you're like, oh my gosh, I don't know if I really want to relinquish my shares. What can I do? Well, with any option contract, whether they're puts or calls, you can always purchase that option contract back at any point in time. If you're not comfortable holding on to this covered call anymore, you just buy the option back and that'll close out the trade, that'll close out your obligation. And depending on the price of the option at that time, if you buy it back, it may or may not lock in a profit or loss. Let's just say you sold that call option contract for $5 a contract. And then the stock starts going up, that call option value is going to go up as well. The call option prices fluctuate as well. It's all based on how the stock moves. So the call option price that you see today is gonna be completely different than tomorrow. And the call option value can go up and the call option value can go down. It all depends on which way the stock is moving. So if the stock starts to rise, that call option value is gonna get more expensive as well. And you think to yourself, oh, if I had waited, I could have sold this call option and gotten more money for it. Or you may be saying, oh, I don't really wanna relinquish my shares anymore. I need to get out of this obligation. What do I do? Well, you can just buy the option back. And like I said, depending on where the stock is, we'll determine where that option price is at the time that you go to buy it back. Now, if the option price is cheaper and you buy it back, you can lock in a gain on that call option contract. See, the call option contracts can be bought and sold as well. So you can just trade the call option contracts if you want. Or you hold it until expiration to see if you have to fulfill your obligation. So lots of things that you can do. Now, if the call option contract is higher in price and you have to buy it back, well, then you're going to lock in a loss. But you have to make sure that, if the stock's gonna keep going up, you have to be sure that if you buy the call option back that the stock's going to keep rising because if the stock falls again, then you're like, oh, I shouldn't have bought the call option back, because now the call option would be making money for you. The key here is that when you sell a call option, you actually want that call option value to go down over time. And this is the basis of the $54,000 that I'm going to show you that my relative is about to lock in, okay? So in this case, let's just say, the stock was at 100 and you sold a $150 call and the stock never went anywhere. It didn't get up to $150 in price. That call option will expire worthless. You'll keep all the money that you were given on day one from the call option buyer. That's money that you've banked. That is money in your pocket. The only way that you will have to relinquish your shares is if the stock moves up to the strike price at expiration. If it does, then your broker will have to, will sell your shares to the call option buyer and you won't have those shares of stock anymore in your account. But you will make money on it because if you bought the stock at 100 and now you sold them at 150, you've locked in a $50 per share game. It's not a bad deal, okay? But now you just don't have those shares anymore. And if the stock keeps traveling up higher and higher, you may be kicking yourself that you had to sell your shares, but that's part of the process. That's part of the game. Like I said, if you want to give your call option contracts less chance of being hit, then you have to choose a higher strike price. Okay, and we'll look at some option examples here. So like I said, if the call option expires worthless, your obligation is over and the process can be repeated. So now you'll sell another call option and get more money so we can keep repeating the process over the course of the year where you sell the call option, hopefully it'll expire, you get the money and then you sell another call option, it expires, you get the money and you keep repeating this process. Okay, so that's really why people like to sell covered calls. They don't really want to relinquish the shares. They just want to get the income. They want to get the cash, okay? So right here, where are we? If the call expires worthless, the process can be repeated. Now, what's the best time to sell covered calls? Is there a certain market environment that makes call options selling better? Well, yes, if you have a flat to rising stock market, it's better for call option selling because you can keep selling higher and higher strike prices and hopefully the stock won't get there. In a declining market like we've been in in 2022, if you bought the stock at 100 and the stock starts going down, down, down, you're not gonna be able to sell the proper strike prices to bring in the money because these call options will be worth less and less over time as the stock keeps dropping. And what you'll end up having to do is you're gonna have to sell strike prices that are lower and lower that at some point could potentially take you out or you'll have to sell your shares at a price that's lower than your cost basis. Okay, so I just, before we look at the actual example, I wanna show you this last thing here, very important. When you sell a covered call, when you pick a strike price for your covered call, you need to make sure that the strike price that you choose is above your original stock purchase price, your cost basis. Let's just say you bought the stock for $100 a share and now that stock is dropping. It's dropping, it's $80 a share now. So you're already $20 in the hole on your share purchase. Let's just say you wanted to sell a covered call now because you wanna get some income and offset some of that paper loss that you're holding. Well, if the stocks drop from $100 to $80 and you sell a $90 call strike and then all of a sudden the stock starts to go back up, you're gonna be obligated to sell your shares at $90 a share. You bought them at $100. Now you have to fulfill an obligation to sell your shares at $90. You don't wanna do that because you're locking in an automatic loss on the shares that you bought at $100. Now you have to sell at $90. So you always make sure if you bought the stock at $100 you always wanna choose a covered call strike that's above your cost basis. Okay, it's very important. All right, so let's go to our example here. Now this is the example is actually true. Okay, so I have a family member who owned 6,000 shares of Adobe stock. Okay, here's the symbol Adobe. Had 6,000 shares of Adobe stock just sitting in his account and we were talking one day about what we're doing in the market. And I asked him, I said, are you selling covered calls on your Adobe shares? And he's like, well, what's that? What's covered calls? And I said, you could be making a ton of income just for the fact that you own shares of stock. And he's like, I don't understand. I said, you can sell what's called covered call option contracts. You own 6,000 shares of Adobe. You can sell 60 call option contracts and get a lot of money into your account for people that are wanting to take your shares away from you. And he said to me, well, I'm not sure I want to sell my shares. I said, okay, well, that's fine. I said, let's talk about a strike price that would really make it almost impossible for Adobe to rise up to in the time allotted for you to have to sell your shares. And I said, but in case you do have to sell your shares, what price of Adobe would you be okay selling your shares? Now, at the time of the trade, I think Adobe was maybe $400, $425 a share. We'll look at a chart. He said, you know what? If I had to sell Adobe, I'd be okay selling them at $650 a share. So it was roughly 200 to $250 higher than where Adobe was currently trading. Okay, so here's the trade and we're gonna look at it. In June of 2022, my relatives sold 60 contracts of the January 2024. So, you know, now a little over a year, a little less than a year from now, but at the time in June 22 is about a year and a half into the future, the expiration date, about 18 months into the future, he sold 60 of these 650 covered calls for $10 per contract. $10 is $1,000 in the option multiplier. You have to multiply each option contract price by 100. So $10 of contracts is actually $1,000. He sold 60 of them. So the immediate infusion into his account was $60,000. So by selling those 60 call option contracts, he was paid $60,000 into his account free and clear. $60,000 that he didn't have yesterday. And he's like, someone's gonna give me $60,000 just because I own 6,000 shares of Adobe. I said, yes, that's how it works. I said, this is what I tell people. If you have any shares, at least 100 shares in your account, someone will pay you money. So he said, I got $60,000 now, what do I have to do? I said, well, now you have to wait until January 2024 to see whether Adobe's gonna go from its current price near 400 or 450, wherever it was, all the way up to 650. I said, if Adobe gets up to 650, you'll have to relinquish your shares at 650. And if he bought them at 400 or 450, whatever price he bought them at, he'd be locking in a $200 per share gain in addition to the $60,000 that he was paid. Now, the way that the trade is actually working out is that Adobe stock hasn't really gone anywhere. It's gone down a little bit, which means these call option contracts have been decreasing in value as well. So Adobe, these 650 strike call options are now worth $1 per contract. As of yesterday, Friday, February 17th, 2023, the Adobe call option contracts went from $10 per contract all the way down to a dollar. So we came to a decision that he's going to buy back all 60, or he's going to try to buy back all 60 of these call option contracts for $1 per contract. And if he gets filled, and I think a couple of them got filled yesterday, that would be $6,000 to buy them back. All 60 would cost $6,000. So if he got $60,000 at the beginning and now he's paying $6,000 to buy them back, that's a net profit of $54,000. Okay, so if he gets filled all 60 contracts at a dollar per contract, he's going to lock in $54,000 since this past June. So six, eight-ish months, he's made $54,000, $54,000 that he didn't have prior to this trade. And now once he buys back all these contracts, the obligation is over. He'll never have to sell his shares at $6,50. He still has his shares of Adobe. So now what he can do is, once he buys back all 60 of these contracts, he can sell another 60 contracts for maybe another year out in time and get more money. So even though Adobe stock's been going down in price since he entered the transaction, selling these covered calls is offsetting some of that price drop in the stock. That's why people sell covered calls also because they wanna buffer some of the loss on a stock that may be going down. So let's go to the chart here for a second. We're going to look at Adobe stock and I'm gonna pull up the stock price, the stock chart here. So this is a stock chart of Adobe. Here's the symbol right up here, ADBE Adobe, the daily chart. And you can see back in December of 2021, before we had the huge drop all of 2022, Adobe was trading for $700 a share and you can see it's come all the way down. At the time of the trade we did in roughly June, right here, June of 2022, Adobe was trading basically right where it's trading now somewhere between $350 and $400 a share. So here's where we are today, scroll back to June, 2022. So roughly the same price. So at the time of the trade, we had sold these or my relatives sold these Adobe 650 calls for $10 a contract. Now here's 650 all the way up here. Adobe would have to rally all the way back up to 650 in order for him to relinquish his shares. Right now it's $356. That's where it closed yesterday, February 17th. Now let's look at an option chain. So here's the Adobe, here's my tab up here Adobe. These are the option chains. Here's a call options on the left. For January, 2024, still have a little less than a year but let's scroll up and get to the 650 strike. So here's the 650 calls and let the prices populate here. So on Friday yesterday, these calls went out $1 bit at $1.10 and you can see the last price was $1. So my relative got filled on some of these at $1. He was able to buy back some of these for $1. He initially sold them at $10, bought them for $1. That's a $9 locked in profit. Now if he was able to buy all 60 of them that would be $54,000 profit. I have to talk to him and see if he was filled. So while at that time Adobe was roughly, between $300 and $400 a share at the time. Whenever it was last June, so eight-ish months ago these things were trading for $10. And the stock prices now is at the same price but yet these things are worth a dollar. So that's time decay. As time goes on the option prices lose value. The stock's at the same price but these option prices change. Okay, so that's how it works. Now, if you wanna choose depending on what strike if you don't wanna relinquish your shares then you need to go up to a higher strike. Let's see what's our the longest dated option here. You can go up to January of 2025. So a little less than two years from now the more, like I said, the more time you give the more money you'll get. So let's see what those 650, it actually goes up to 590 is the highest strike. So 1200 and it's probably worth about in between these two numbers here, 1240 bid, 660, 1665. It's worth about 1450 per contract. So you have to decide where would you be okay relinquishing the shares. And these things are paying a lot of money if you go to January, 2024, we'll look at the 590s see what they're worth to at an earlier expiration date. Those things are only worth $2.50 roughly versus 1400. So more time equals more money but yet you're giving the stock more of a chance to move up potentially to the strike price. Now, as I said, you can go to you can use a probability calculator to figure out what are your chances of the stock maybe getting to that price by a certain date. All right, so here's a probability calculator that we use no probability calculator will help you figure out what are the chances of the stock moving from point A to point B with an X period of time. Now I have the current price of Adobe. Here's the expiration date of these January, 2024. It's 335 days ahead. Our volatility is 35%. We wanna know what the chances of Adobe at 356 today can get up to $650 in the next 335 days. Click go and the probability calculator is telling us there's a 96.3% chance that Adobe stock will finish below 650, meaning we won't have to relinquish the shares. Conversely, there's a 3.6% chance that Adobe will get above 650. So there's a really good chance Adobe will not reach that 650 level in the next 335 days. It's not a guarantee, it's just this is an estimate because it's all based on how Adobe has been fluctuating in the past. And this is what the volatility number tells you. So based on Adobe's movements in the past, we can predict out, well, how is it gonna fluctuate in the future? And the probability calculator will tell you how high or how low, it doesn't tell you the direction, it just tells you how high or how low Adobe can move in that next 335 days. And it's telling us there's a 96% chance that it's not gonna get all the way up to 650. So you can use a probability calculator to help you figure out, you know, choosing the strike price. If you don't wanna relinquish your shares, you choose a way out of the money strike that's got a low chance of the stock getting there and choose an expiration date that gives you enough money to make you feel good about selling these things. Okay, so that's really about it, that's how you do it. Let's go back to our little cheat sheet here. So once again, last thing, very important, make sure you choose a strike price that is above your cost basis if you have to relinquish the shares. Otherwise you're gonna sell the stock at a loss and you don't wanna do that, okay? So if you need this cheat sheet, what I'm gonna do is I'll put it in the link below. That's really about it, everybody. Your lesson today on how to sell covered calls and what they are and why you wanna do it. You can get money in your account that you didn't have yesterday or that you never thought existed. So I'm really happy for my relative. They're gonna bank $54,000. It's a good deal. And now we're gonna look at selling some more once he's filled on all 60 of these contracts. All right, that's all for our lesson today, selling covered calls. If you didn't watch the Wheel Strategy video from last week, I'll put it on the screen here and you know, give me a thumbs up. If you like this video, don't forget to subscribe. Hit that red subscribe button. Send me an email, leave me a comment. I always like to hear from you. And that's it for today. All right, I wish everyone a good weekend and a great trading week ahead. This is Lee Lowell, signing off.