Wednesday, November 15, 2006

Covered Call Trading Plan

Version 15 - Updated 01/05/18 (see History)

INVESTMENT OBJECTIVES

The primary objective is to generate income every month with an annual return on investment of 5% or more, which is twice the average dividend yield of the Dividend Champions/Contenders.

Investments will be made in a diversified portfolio of common stocks in dividend paying companies who have increased their dividend for 10 or more consecutive years (i.e. Dividend Champions/Contenders), and possibly a few ETF's.

INVESTMENT STRATEGY

The primary strategy is to establish positions in undervalued companies with solid fundamentals, and a history of increasing dividends (see Stock Selection below). Positions may also be established in a limited number of ETF's.

Cash Secured Put (CSP) options will be sold to establish new positions and Covered Call (CC) options may be sold if the stock is acquired.

The income generated will be reinvested, held in cash, transferred to other accounts, or used for other investment strategies, depending on the availability of qualified candidates and/or other investment opportunities.

POSITION SIZING

Initial positions will be established at 100 shares.

Additional shares of a given company may be purchased, usually through the assignment of new put options.

ASSET ALLOCATION

This portfolio will use two asset classes as follows:

  • Individual Stocks.

  • Exchange Traded Funds.

When few stock opportunities are available, ETF's may be used, or more cash may be held in the account, transferred to another account, or used for other investment strategies.

STOCK SELECTION

The following resources will be used to select potential candidates:

The following is the selection criteria for Dividend Champions:

  • Dividend Champions (25+ years) or Contenders (10-24 years).

  • Covered by Morningstar and Value Line Daily Options Survey.

  • Stock price and strike price below M* Fair Value.

  • Annual Return on Investment (AROI) >= 4%

The following is the selection criteria for ETF's:

  • CSP downside protection of 4% or greater.

  • Annual Return on Investment (AROI) >= 4%

ENTRY/MAINTENANCE STRATEGY

Initial positions will be established by selling a CSP below the M* fair value and expiration date before earnings announcement.

If the CSP is assigned, CC's may be sold at/above the purchase price, until the stock is called away.

Stocks may be also held covered or uncovered to take advantage of dividends and possible capital appreciation..

EXIT STRATEGY

When a company's fundamentals no longer meet the criteria, or if the company becomes overvalued and other qualified candidates are available, all positions for that company will be closed.

OPTION EXPIRATION STRATEGY

At option expiration, Cash Secured Puts (CSP), Covered Calls (CC) and Uncovered Stocks will be handled as follows.

Cash Secured Puts (CSP)

  1. If the company is no longer a qualified candidate, close the position, preferably at a profit, as soon as possible.

  2. If the company is still a qualified candidate then do one of the following:

    • If assigned and the stock is purchased, continue the position by selling a CC at/above the purchase price. Try to avoid selling a call below the purchase price of the stock. The stock may also be held uncovered to take advantage of dividends and capital appreciation.

    • If expired and the same strike can be sold, continue the position by selling another put at the same strike.

    • If expired and the same strike can not be sold, close the position and look for new opportunities.

Covered Calls (CC)

  1. If the company is no longer a qualified candidate, close the position, preferably at a profit, as soon as possible.

  2. If the company is still a qualified candidate then do one of the following:

    • If assigned and the stock is sold, close the position.

    • If expired and the same strike can be sold, continue the position by selling another call at the same strike.

    • If expired and the same strike can not be sold, hold the position uncovered, while collecting dividends, until the same or higher strike can be sold. Try to avoid selling a call below the purchase price of the stock.

Uncovered Stocks

  1. If the company is no longer a qualified candidate, close the position, preferably at a profit, as soon as possible.

  2. If the company is still a qualified candidate then do one of the following:

    • Continue to hold the stock uncovered to take advantage of dividends and capital appreciation.

    • Sell a CC at/above the purchase price. Try to avoid selling a call below the purchase price of the stock.