The most valuable skill I’ve learnt this year has been using cash secured puts (CSPs) more effectively. While I’ve used CSPs before, these resources at the “Great Option Trading Strategies”, especially on opportunistically rolling out options, greatly clarified the philosophy and mechanics of adjusting a trade for me. (Thanks, Brad Castro!)
The best part of a CSP is that it is completely congruent with a long-term value investing focus. It lets you buy securities on the cheap, or generate an income stream.
Let me illustrate its use with a real-life example.
Earlier this year, I looked at VFC, and guessed that it was probably worth around $65. At that time, VFC was trading around $53, having bounced back from a multiyear low of $48. I believed that there wasn’t much downside left.
So on 2/23, when the stock was trading at $52.55, I wrote 2 $52.50 Mar17 puts and collected about $205 in premiums. The stock hovered in the range $52.50-54 in the lead up to expiration, and the option died worthless (~$54 at expiry).
Five days later, the stock fell back to $53.09. I again wrote 2 $52.50 Apr 2017 puts for about $245 in premium. I closed the position 12 days before expiry on 4/10 for $35, after the stock jumped to $55. This allowed me to book nearly $210 in profits.
After that VFC continued to rise to nearly $58, and I lost interest in it. On 4/28, the stock fell back to $54.75, and I wrote 2 $55 May17 puts for $205.
After reporting lackluster earnings a few days later, the stock fell down to $52, and I learnt my first options lesson: be cautious of earnings announcements.
The stock recovered above $55, before falling to nearly $51.50 around expiry. My puts were now deep ITM.
In such a situation, there are a few options. Since I thought $51.50 was a great price, I increased my position, and on 5/17 rolled out the previous put, and committed more capital. Effectively, I closed the old puts, and wrote 3 new $55 Jun17 puts, for a net inflow of $452. The table below summarizes my actions so far.
Currently (June 2, on the day of writing) there are two weeks left before expiry. VFC is trading near $54. I don’t know what the stock will do between now and then.
Even if I decide to take delivery, I will have reduced the effective buy price to $51.50. I may be able to reduce it further if the stock remains range bound. If it jumps well beyond $55, I will happily walk away with over $1000 in earned premiums, and a solid return on capital employed.