Should there be stop losses set on covered call plays in order to limit any loss should the stock take a dive? Also, according to my broker, Charles Schwab, I do not receive the ask price when selling a call using a buy/write. They also do not have a mechanism to automatically set a stop loss for the stock on a buy/write. Should I be finding another broker? (August 24, 2002)
One of the things about covered calls is that you should, just as with other positions, keep stop losses of some sort (we use mental) in place. You are correct, a stock can still tank in a covered position just as with any other. What happens when the stock falls in value? The option does as well. If you are in an account that allows it and are qualified to ride calls naked (sold but no stock to cover), you can sell the stock when it hits your stop point and continue to ride the calls down as they will continue to lose value. You can then buy them back when the stock stops falling or let them expire if the stock falls and does not come back. We would prefer to just close it out when the calls are at a low value.
If you are in an account such as an IRA that does not allow you to be naked on calls, you will have to close the calls out when the stock is sold. As the calls will have lost value as well you will still be in decent shape. I don't keep stops too tight on these longer term positions as they will fluctuate during the period and we want to have the time work for us.
As for getting buy/writes written, you are not the first to have a problem with Schwab on buy/writes. From the emails I have received, if Schwab is calling this a buy/write, then Schwab is making it up. One problem may be that they simply do not understand what you want to do by the name.
At first I had to educate some of the brokers as to what I was talking about, but the old pros knew exactly what it was I wanted to do. The head options trader at Schwab should know this method; you buy the stock at the ask and sell the call at the ask, getting a net debit on your trade. If you buy a stock at $20 and want to sell the $20 call option that is trading at 3.90 by 4.00, you tell your broker you want to do a buy/write covered call play, buying the stock and simultaneously selling the specified call for a net debit of $16. It is one transaction so you get a break; it may be on the option, it may be on the stock, but if your net debit is where you want it to be, what do you care? Your return is the same. The key is it is not two separate transactions and that is where the younger option brokers get thrown off. Again, I would think the head options trader at Schwab should be familiar with this. I am not, however, shocked to hear it because when I first started doing this the younger brokers did not know what I was talking about and they had to get the more seasoned brokers to educate them. It is as old as options themselves, but as with many solid techniques, it is overlooked by the flash and glitter of all the spreads, naked option sales, etc. Sometimes, however, the basic can be the best.
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