Cash Flow Options Trade

Today we’re walking through a cash flow options trade. This easy options trade uses options premium to create cash flow on shares of a company we want to own. We currently own 1,000 shares of MBUU in this portfolio and we’ve worked our basis down to $30.29 per share. We had two contracts of the $27.50 put, the $32.50 covered call, and the $35 covered call. Each of those contracts expired out of the money last Friday. Here is the post that walks through putting on those trades. Now we have access to the capital from the expired cash secured put option contracts. We can also sell more covered call options. With MBUU trading at $32.00 per share right now we’re already in a profitable position.  

We’re using MBUU for these trades because we feel that the trading price of MBUU will be much higher one year from now than it is today. We want to hold some shares for that run up, but we also want to create cash flow from the shares we own while we wait. This way we’ll create income from our shares and reduce our basis.

So we’re going to sell covered calls on a portion of our position as a cash flow options trade. We’ll sell the covered calls above our basis. That way, if MBUU runs up through our strike price and our shares are called away, we’ll be making money on both the option premium as well as the sale of our shares. If we do not want to sell our shares we could also roll the position. That means we would buy to close the covered call option contract that is in the money. Then we would sell another one for a higher strike price with an expiration date that is further out in time. So we’re going to sell four covered calls, and if MBUU runs up through those strike prices we’ll decide if we want to let those shares go or roll those positions.

Today we sold the $32.50 covered call as a cash flow options trade. We got $1.40 per share on that trade, and we sold to open two contracts. If MBUU is trading above $32.50 at expiration on 6/20 we’ll be obligated to sell 200 of our shares at $32.50. Or we could roll the position. We’re bringing in $140 for each of those contracts, so we’re making $280 on that trade. We also sold to open two contracts of the $35 covered call option. We brought in $0.60 per share on each of those contracts for a total of $120.  Those two trades combine for a net $400 in passive income.

We’ll also sell some cash secured put option contracts. With MBUU trading at $32.00 today we sold the $30 put option for the 6/20 expiration date for $0.83. We sold to open two of these put option contracts, which gave us $166 in passive income. Each contract requires us to buy 100 shares of MBUU at $30 if the trading price of MBUU is below that at any time from now through expiration on 6/20. When we sell to open a put option we need to have enough capital in our brokerage account to cover the cost of the trade in case we are assigned shares. In this case, that’s 100 x $30, or $3,000 for each contract, or $6,000 in total.

We’re bringing in $0.83 in option premium per share and we’re risking $30 per share. Why would we risk $30 to make $0.83? Because our valuation says MBUU is worth more than $30 a share, so we’re happy to buy shares at $30 if we need to. If the trading price drops and we’re assigned shares at $30 our actual basis for those shares will be $29.17. We get that by taking the $30 strike price and subtracting the $0.83 in option premium. So we could be assigned shares at $30, then sell a call at that same $30 strike and make money on the trade if we are called away at that $30 strike.      

When we put up our money for a trade like this we want to be sure we generate an acceptable return. Here’s how we do that. The option premium for this trade is $0.83. We’re risking $30 to make that $0.83, so we divide $0.83 into $30 and we get 0.0277. This is a one month long trade, so we could do this trade twelve times over the course of a year. That makes 12 our time multiplier. So we take 12 times 0.0277 and we get 0.332. That’s an annualized return of 33.2%, and we aim for a minimum of a 20% annualized return. Since we’re happy to buy shares at $30, we’re happy with this cash flow options trade.

Weekly Option Trade Recap

We sold to open two contracts of the $30 put for the 6/20 expiration date. That brought in $0.83 per share in passive income on those two contracts combined. We also sold to open the $32.50 covered call for $1.40 and the $35 call for $0.60.  We did two contract on each of those trades, and we brought in a total of $566. These cash flow options trades bring our basis on MBUU down to $29.72 per share.