4 More Ways to Collect Higher Option Premiums
In your June Option Seller Newsletter, we covered the Top 3 ways to collect higher option premium. To review, they were:
- Sell Naked Options
- Sell Volatility – Fade the News
- Sell Longer Dated Options
Presented here are 4 More Ways you can collect higher premiums in your option selling portfolio.
4 More Ways to Collect Higher Option Premiums
4. Sell Strangles
Selling strangles is possibly our all time favorite option selling strategy. While not ideal for hard trending markets or breakout moves, selling strangles (selling a put and a call in the same market) can be an amazingly versatile strategy. It can be deployed in a wide variety of market conditions and has a magical effect on boosting your premium: Doubling your premium collected while reducing your margin requirement (as a percentage of premium).
For instance, selling the put may bring in $500 premium and carry a $1,000 margin requirement. Selling the call may do the same. But selling them at the same time brings in the same premium but lowers the margin requirement. Thus, selling the put and call together brings a greater return on invested capital. As a bonus, selling a strangle also comes with some built in risk temperance. A move against your call is at least partially offset by gains in your put (and vice versa). Thus a strangle can be a flexible way to build account premium quickly. While the ideal scenario for a strangle is a sideways or range trading market, strangles can also be effective in directional markets.
5. Sell Closer to the Money
While not our first choice for collecting higher premium, selling closer to the money will increase the premiums you collect. For the risk adverse, it may not be your first choice either. The closer you sell to the money, the better chance for your options to go in the money – a place no option seller wants to be. After all, one of the main reasons investors sell options is to avoid short term market fluctuations. At the same time, moving a strike or two closer can sometimes make a big difference in the premium you bring in. Especially in markets where deep out of the money strikes are available and fundamentals support your position. For instance, if Coffee is at 1.50 per pound, it probably isn’t going to make a big difference from a risk standpoint if you sell a 2.90, 2.80 or 2.70 call. But it could make a noticeable difference in the premium you collect. In this type of situation (all strikes are deep out of the money,) selling the closer strike can make sense.
6. Leg out of Credit Spreads
Since the title of this column is not “How to run the most effective, risk adverse option portfolio” we will refrain from preaching the merits of credit spreads and instead offer just a brief tip for increasing your premium from them. A credit spread involves selling an option (or group of options) and then buying another option of lesser value to protect or “cover” your short option. Many sellers of credit spreads simply put them on and let them expire, keeping the “credit” (the difference between the two options) as profit. There is nothing wrong with this and it can be a conservative way to build a portfolio. However, to squeeze a bit more profit out of your credit spread – try this: Sell your protection early. Once the short options in your credit spread have decayed by 70-80-90%, the risk in them drops accordingly. This can be a good time to sell your protective option(s) back to the market. Obviously, they will have decayed as well. However, you will recapture some of the premium you paid for them. This can boost your overall return on the spread.
7. Enlist the Help of a Professional
Option trading on commodities is one investment vehicle where using a floor trader in the pit can still offer you an advantage. While floor traders are gradually being phased out in both stocks and commodities, there are still some markets where they remain available and effective. Limit orders placed on commodities options through electronic markets can often sit unless a trade actually takes place that “triggers” a fill. In other words, it has to be filled. Floor orders are actively worked by brokers. And if your limit order does not get filled, a floor broker can give you an “active” bid/ask – something that does not always show up on an electronic screen. This is especially true in placing larger orders which floor brokers are very motivated to fill. A good floor broker can sometimes work the order for a better fill. More importantly, they can sometimes get filled on a ticket that might be overlooked in the electronic market.
A professional trader or manager (off floor), on the other hand, can sometimes give you the benefit of economy of scale. If you’re using a fund manager, he may be placing orders for all of his clients at once. Thus, instead of working your order alone for 5 or 10 contracts, he may be selling 500 at a time. These orders tend to get attention whether placed on the floor or electronically. Experienced fund managers often work through their own network of floor traders as well.
In addition, a professional’s skill at reading “between the lines” on bid/ask spreads, working the order itself, and judgment in timing (sometimes its better to wait for another day) may be superior to your own. This alone could result in higher premium for you.
A final word
Collecting the biggest premiums is not necessarily always congruent with having the best return at year’s end. To successfully manage your option selling portfolio, you must balance premium collection with responsible risk management. Each of the items listed above can indeed boost your premiums. However each also comes with its own unique risk of implementing it. Any one of these methods will not be right for every situation. These are a list of strategies and tools you can use. How you apply them will determine your ultimate performance.
If you are a high net worth investor and would like to learn more about selling options as a core investment strategy, you can request a FREE COPY of our Investors Guide to Selling Options: How to target outsized returns, gain real diversification and achieve investment peace of mind in any type of market. To get your free copy, go to www.OptionSellers.com/Booklet.