The Covered Calls Farm
Planting and Harvesting Covered Calls for Fun and Profit using a Farming Strategy
Unexpected storm damage can do significant damage to your crops and results in losses. (Market drops, unexpected bad earnings, and other unexpected hits to your stock values). So what can we do on the Covered Calls Farm to limit our losses (or maybe actually not lose money)?
The first thing I do in these situations is to do an extensive review of the company's fundamentals. Is this a solid company? Is this just a short term situation? Is it market driven? Is there something fundamentally wrong with the company? Depending on your answers to these and other related questions you will decide to keep the stock or if you feel there is minimal hope for recovery you decide to close the entire positions and taking a loss if applicable. I will discuss the concept of Crop Rotation later on ideas how to help recover your losses.
If you decide to keep the stock you can consider any of the following based on your belief about the company:
1. Close the current call on the stock (lock in call profits) and roll out to a longer expiration month at the same strike price. This normally will produce additional premiums and by writing at the same strike price you are not locking into a potential later loss on the stock when it does recover. (limited the upside by a strike price lower then the purchase price of the stock).
2. Close the current call on the stock and write a longer and/or a lower strike price. This will bring in more premiums to help soften the downside loss but it can result in locking in a loss when the stock recovers.
3. Close the current call and do not write another call until later. In this situation you believe the stock will bounce back and you can write another call when the stock is higher. This is a bullish position in that you are betting the stock will bounce back and you have not taken any defensive position by writing another call as described in 1 and/or 2 above.
4. Do nothing and wait until the call expires. Many times a stock can take a dip and then bounce back on it's own over time. Sometimes doing nothing is the best solution but you must recognize you could also lose more money if you are wrong. Look back at a chart of the stock in question to see if it has dropped before and to what levels before it bounced back. What's different about the stock today.
Still being developed. 2/14/2011
Updated: February 14, 2011
What happens when the stock market falls 10% or more. How do you handle? What do you do to protect your assets? Covered calls do provide some downside protection depending on the premiums received. Doesn't guarantee no loss but can help to reduce the loss. The shorter the call period the less protection so you need to balance your desire for asset protection for asset growth.
There will always be storms and it is natural. Learn how to provide some protection to your account and maybe even make more money long term because of the ups and downs of the market.
Storm Clouds are around us!