Are you using all of your options to generate income?
In a low yield, no interest rate world investors are always on the hunt for ways to generate more income. The yield hunter should look beyond traditional income investments and the low rates they offer. In this environment it is recommended to explore all of your options.
The options market is a great way to generate income from your equity holdings. If you are an owner of individual stocks or Exchange Traded Funds, then you can turn these holdings into income producing machines. The most conservative option strategy available to investors is to write options on stock that you currently own. This strategy is also known as a buy write or covered call.
Let’s look at a hypothetical example of writing an option on a fictitious company. In our example you own 1,000 shares of ABC Company that you purchased for $34. Today, ABC Company is trading for $43 per share and you decide to sell a call on your 1,000 shares at $45 per share. Here is how this process works. One option contract controls 100 shares of stock. You own 1,000 shares of ABC Company so you will sell 10 option contracts (1,000/100 = 10). Option contracts expire weekly so let’s choose the January 15th ABC $45 strike price. This contract may generate $1 in premium for ABC at the $45 strike price. This $1 will generate $1,000 in income (before fees) for your account. The $1,000 in income is from 10 contracts (1 contract = 100 shares) at $1. The money from selling your option will be credited to your account at the time of the trade and is yours to keep regardless of what happens to ABC stock. If ABC is trading at $45 or higher on January 15th, then you are obligated to sell your holding at $45. If ABC is selling $44.99 or lower on January 15th, then you will retain your shares. If you retain your shares in ABC, then you can repeat this process in February or March. To continue with this example, if you sell an option on ABC every six to seven months, then you can potentially add $6,000 to $7,000 to your account on an annual basis.
Options involve risk and are not suitable for every investor. It is important for you to work with a firm or an advisor that fully understands your investment goals as well as the characteristics of options. You can learn more about options at www.cboe.com.
Bill Parrott is the President and CEO of Parrott Wealth Management, LLC in Austin, TX. www.parrottwealth.com