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Author: joelcorley Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 1202  
Subject: Re: Covered calls Date: 11/30/2004 6:38 PM
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tiocsti,

I wrote, In my limited experienced, selling covered calls never appears valuable in practice. Of course a broker is more than happy to let a novice cut his teeth on them – he risks nothing and he's likely to make good money from the added trading commissions even as your assets slowly decline in value.

To which you replied, Unfortunately, studies dont reflect that. Systematically writing calls has been shown to increase returns and reduce volatility. I'd point you at the ibbotson study that looked at a simple buy-write strategy (specifically, the bxm index). It's not the first study to examine covered calls, most of them seem to suggest you gain a few percentage points in absolute performance while reducing volatility.

Buying a stock just to write a call against it, on the other hand, is rather silly in my view, and not really how you want to approach covered calls (think of it as risk management, not income).


I'm sure some people make money writing covered calls. I'm not one of them. (I still don't think writing a covered call is a risk-management strategy, even if this study does show a statistical reduction in volatility over it's short-term study period.)

For one thing, the transaction costs are too great for me since my available assets are only in the 5-digit range and I'm never able to write more than a couple of contracts at a time.

Ok, I just skimmed the Ibbotson report. ( http://www.ibbotson.com/download/research/BXMBrochure3s.pdf ) A couple of things stand out at me. First, this analysis is only for a bit less than 18 years, which isn't a very large or representative sample. Second, the chart on the first page shows clearly that during a strong bull market, BXM seriously underperformed the S&P500. Thirdly, it's interesting to note that as of the end of the study period, the S&P500 and BXM resulted in almost identical performance. Finally, if you go examine the construction of the CBOE BXM index, you'll see that no transaction costs are included. That means that the capital lost each time you roll over the option contract isn't simulated in the BXM index. For a small-time investor like myself, that cost may be significant.

I suspect making money off of covered calls is something you do in the margins, if you know what I mean. If you're practiced and disciplined at it I'm sure you can garner another 1-3% return on your money each year. Perhaps when my assets are larger I'll reconsider it; but for now, covered calls just don't look worthwhile to me.

Perhaps if BXM were traded as an ETF, it might get my interest. But for now, I've decided to forgo options altogether because my broker isn't interested in selling me the occasional put or call and I'm not interested in writing covered calls, especially given my underlying investments…

- Joel
Who thinks he has a comfortable grasp of option concepts, but has no practical experience with them.
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