Strategic Income

If you’ve subscribed to Strategic Income, please click the stars below to indicate your rating for this newsletter, and please share any other feedback about your experience using the comment box below.

Investment Performance

Rating from 1 votes
Rating: 5.0/5. From 1 vote.
Please wait...
Your vote
  • 5 Stars 1 Votes
  • 4 Stars 0 Votes
  • 3 Stars 0 Votes
  • 2 Stars 0 Votes
  • 1 Stars 0 Votes

Quality Of Writing/Analysis

Rating from 1 votes
Rating: 5.0/5. From 1 vote.
Please wait...
Your vote
  • 5 Stars 1 Votes
  • 4 Stars 0 Votes
  • 3 Stars 0 Votes
  • 2 Stars 0 Votes
  • 1 Stars 0 Votes

Value For Price

Rating from 1 votes
Rating: 5.0/5. From 1 vote.
Please wait...
Your vote
  • 5 Stars 1 Votes
  • 4 Stars 0 Votes
  • 3 Stars 0 Votes
  • 2 Stars 0 Votes
  • 1 Stars 0 Votes

Customer Service

Rating from 1 votes
Rating: 5.0/5. From 1 vote.
Please wait...
Your vote
  • 5 Stars 1 Votes
  • 4 Stars 0 Votes
  • 3 Stars 0 Votes
  • 2 Stars 0 Votes
  • 1 Stars 0 Votes
guest

12345

This site uses Akismet to reduce spam. Learn how your comment data is processed.

7 Comments
Inline Feedbacks
View all comments
Bob
Guest
Bob
September 19, 2009 2:01 pm

Reviewed: Mt. Vernon Research’s Strategic Income

The Mount Vernon group of newsletters has not one, but two put selling newsletters. The first is Instant Money Trader, which specializes in selling well out of the money puts that are unlikely to be exercised.

But the other put selling newsletter is the subject of this review. It is called Strategic Income, and is a put selling newsletter in disguise. The actual trades recommended are buy-writes with in the money calls. Example: On June 24, 2009 the following recommendation was made:

Buy Silver Wheaton (SLW) at $8.60.
Sell SLW December $7.50 calls at $2.20.

Note that you are promising to sell SLW at a price less than you bought it ($7.50 vs. $8.60). This makes you money because the call premium reduces the initial net cost to $6.40. So the return is $1.10 / $6.40 = 17% in 5 months. (SLW happened to be both cheap and volatile, so the return is higher than most of these trades give.)

As I write (September 19. 2009) SLW is at $12.51. You’d have done better owning the stock outright (up 46%) but of course back in June you’d have had no way to know that. A buy-write with an in the money covered call is more conservative than buying the stock outright — you’d make your 17% in December even if SLW dropped 12% from its June price to $7.51.

With most of the trades the stock is called out and you make your expected 6 – 18% in 4 – 6 months. Considering that that can compound to over 20% a year this isn’t at all bad for a conservative stock strategy. If the stock drops below the strike price of the call you can then sell covered calls at the original strike price until you get called out.

Why do I say this is a put selling strategy in disguise? Because of put-call parity. In particular, if

X = the price of a stock
S = the strike price
C = the price of a call on that stock at strike price S
P = the price of a put on that stock at strike price S and the same expiration date as the call
d = the dividends paid by the stock between now and the expiration date
i = the safe interest earned on the cash needed to buy the stock at strike price S between now and the expiration date

Then put-call parity says:

C – P = X – S – d + i.

This is proven by a simple arbitrage argument. (If this is new to you, read any basic book about options.)

Put-call parity implies that buying a stock and selling a call is equivalent to selling a put at the same strike price and expiration date as the call. In particular in the buy-write the gain (assuming the stock ends above the strike price) is

C – X + d + S (you pay X – C, earn d in dividends, and then receive S when the stock is sold)

When you sell a put and keep enough cash on hand to buy the stock at strike price S the gain is:

P + i (what you got for selling the put plus interest on the cash)

By put-call parity these are equal.

So in the above example you could just sell a SLW December $7.50 put for $1.10. This has the advantage of lower commission costs, since you’re not buying any stock. If SLW ends up below $7.50 in December you will be put to the stock and be in the same position as you would have been had you done the buy-write — you’d own the stock in both cases at the same effective price of $6.40.

But when you do the buy-write you get to earn any dividends. So isn’t that an advantage to doing buy-writes? Nope. You’ll note that in the put-call parity formula when dividends go up puts become more expensive than calls by the same amount. If you check both the put and call prices you’ll find that you’re just about always better off simply selling the puts.

I sent mail to Karim Rahemtulla (the author of this newsletter) asking why, in light of put-call parity, he didn’t simply recommend selling puts. He agreed with me on everything and said that you could indeed just sell puts. He said that he recommended buy-writes simply because his audience was more comfortable with them. It seems to me that part of the obligations of writing a trading newsletter is that you educate your audience. So this doesn’t seem to be much of an argument. Anyhow, you’ve been educated right here, at good old Stock Gumshoe.

Finally, when you sell puts based on this newsletter it is important not to use margin. Always have the cash on hand to actually buy the stocks you promised to buy. The puts are only a little bit out of the money so there is a significant probability of the puts being exercised. After all, this is an income newsletter, for earning 8% here, 12% there. It’s not for speculators swinging for the fences (and usually striking out). BTW any reasonable IRA will let you sell puts that are fully backed by the cash needed to buy the stock (i.e., no margin is used). So this newsletter is suitable for IRAs.

Yes this newsletter has some good trades. But sell the puts, don’t bother doing the buy-writes.

Add a Topic
910
Add a Topic
996
Add a Topic
6172
JPL
Guest
JPL
September 19, 2009 5:38 pm

Hi, Bob,
Thanks for your write-up about the put-call parity.
I don’t know about the States, but in Canada, there is a reason why selling naked puts is not as popular as covered calls.
It is very difficult for the average investor to get an account to sell naked puts here in Canada. It took me several months to get mine, and that’s with persistence. Also, all registered accounts, such as RRSP (registered retirement savings plan), forbids it.

JPL
9-19-2009

Add a Topic
1515
Add a Topic
1515
Add a Topic
1209
Bob
Guest
Bob
September 28, 2009 5:48 pm

JPL, selling out of the money puts that are fully covered by cash is less risky than buying stocks outright. After all, either the stock doesn’t get down to the strike price, in which case you get paid for trying, or it does, in which case you get the stock cheaper than if you had bought it the day you sold the put. Selling puts only becomes riskier than buying stocks when you use margin (promising to buy more stocks than you have cash to buy) or if you sell puts on dud stocks you really wouldn’t want to own. So if selling puts without margin is forbidden in RRSPs it sounds like a scam by the brokers to make you do buy-writes, which makes them more money in commissions.

Add a Topic
5971
Add a Topic
5971
Add a Topic
6172
JPL
Guest
JPL
September 28, 2009 10:11 pm

Hi, Bob,
I used your very same logic to try to influence the broker to let me sell naked put options. It was difficult to say the least. So, I do agree with you that our Canadian brokers have ulterior motives (i.e. more commissions ) in making it so difficult for average clients to sell naked put options.

On the other point, just to be fair to the Broker, I’m told ( by my brokers, so I might be mis-led) that the Canadian government forbids short-selling in all the registered accounts, and forbids use of margin as well in registered accounts.

Anyways, I’m not being argumentive, but it’s just for your information, that is, if you care to know.

Have a great day, Bob.
JPL
9-28-2009

Add a Topic
570
Add a Topic
570
Bob
Guest
Bob
September 30, 2009 10:32 am

[Here I continue the commentary rather than provide another review. We really need a “comment” feature here.]

JPL, I can’t short stocks in my IRA either. Nor can I use margin. I’m not allowed to do anything that could theoretically lose more money than I have cash in my account. But selling naked puts that are fully covered by available cash doesn’t involve margin. For as long as the short put remains outstanding the cash that covers it is unavailable for any other purpose. So I say your broker is blowing smoke.

Add a Topic
899
Add a Topic
899
JPL
Guest
JPL
October 3, 2009 4:53 pm

Hi, Bob,
Yes, I have to agree with you that the broker is doing only what is advantageous to them, i.e. to “make them more money in commissions.” If they don’t allow shorting puts, then they shouldn’t allow shorting calls either, even if the calls are covered.
In the past, I’ve told them similar to what you said, that the naked puts would be covered with the cash in the account, but they still wouldn’t allow selling naked puts in the registered accounts.
Thanks for your confirmation. Bob. I appreciate it.

JPL
10-03-2009

sptegd
Guest
sptegd
January 29, 2010 7:17 pm

I don’t subscribe to Strategic Income, but have used a put selling strategy since Feb 2009with outstanding results. Until this recent market drop, I’ve only been assigned 2 times out of over 50 cash-covered puts. I have been choosing underlying stocks with a strong or niche position. My target minimum return is 25% annualized, and last year I averaged about 30%. This change in the market direction is causing me to hold up for a while, since the strategy is best suited to a rising market. I’m expecting to be assigned a half-dozen or so stocks and will write calls on them at 1-2 strike prices above market. By the way, I try to place as many puts in my IRA as its cash will allow. I never use margin!

Add a Topic
910
Add a Topic
996
Add a Topic
6172

We use cookies on this site to enhance your user experience. By clicking any link on this page you are giving your consent for us to set cookies.

More Info