Last year, Patrik sent me an email he titled “Covered Call Panic” He shared with me information on his trades and was distraught at the current outcome, states Alan Ellman of The Blue Collar Investor.
This article will analyze whether Patrik actually needed Kleenex to cry over these trades or, perhaps, champagne to celebrate.
Patrik’s Email to Alan:
I read an in-depth article of yours about covered calls and as a newbie, I’m currently in quite a pickle that I’m trying to understand and potentially do something about!
I got 1000 shares of $Bili and placed covered call options on them with strike prices of $14 and $17 and unfortunately, the stock flew up during these past two weeks to $24 where the little bit of premium received (~$2K) is nothing compared to the current gain of the underlying long stocks (~$10K). The covered calls are due mid-January. Is there any way I can reverse/sell/execute/assign them earlier for a profit here—or am I doomed to hold on until mid-January and will have to be satisfied with just the premium received upfront?
I’m a newbie to covered calls and can’t find an answer to this on Google! Any help/guidance from you would be super appreciated!
The blue arrows show the volatility of BILI which is a reflection of the high risk and impressive option premiums inherent in these trades. Patrik did not share with me all the specifics of these trades, but certain conclusions can be made and a decision, at this point in time, if we are headed for the Kleenex or champagne.
Alan’s Responses to Patrik
No need to panic.
A few comments you should find useful:
- As long as the $14 and $17 calls are in place, the shares can be worth no more than those strikes.
- As of now, you have an unrealized maximum gain on these trades as they were initially established (accepted the premium and agreed to sell your shares at the strike).
- You do not have to wait to close the trade, you can close at any time by buying back the calls and selling (or holding) the stock.
- Buying back the call will make the shares worth the current market value, but the cost will be the difference between the strike and current market value + a time-value component.
- As an example, if you sold the 1/6/2023 $17.00 call and shares are now worth $25.76, the posted cost-to-close the $17.00 call is $9.70 per share. If that is done, shares are now worth $25.76 or an additional $8.76 above the previous strike. This means you are paying $0.94 in time value to close the $17.00 call. You can then sell a higher strike call if you feel that the share price will continue to accelerate.
- Bili is an extremely volatile security. It can go down as fast as it went up. Great premiums, but great risks with these types of underlying securities.
- Bottom line: You haven’t lost money. You have maximized your profits (unrealized until the trade is concluded) as the trade was initially crafted. In other words, champagne rather than Kleenex in this case.
Learn more about Alan Ellman on the Blue Collar Investor Website.