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It is amazing to me that not many retail investors understand the concept of generating cash flow from their stock positions. When I tell people that I utilize covered calls to generate extra income, hedge my stock positions, and set strict sell disciplines they look at me like I am crazy. I was introduced to the concept from a stockbroker. The idea of writing covered calls is the only option strategy that you can employ at most of the major brokerage firms for your IRA investments. The reason is that writing covered calls is a very conservative strategy relative to other option strategies.

Covered call writing is usually easier than most people make it out to be. It works like this. I’ll give you $1,000 now, if you let me buy your stock five months from now at a set price. If I want to walk away from the deal, you get to keep my money.

With a stock, let us say I buy 1,000 shares of ABC OIL at $10 and the stock goes to $11 in the following month. I can sell someone the “right” or option to buy the stock from me six months from now at $12.50. For that right or option, the option buyer has to give me some consideration, similar to the above real estate example, let’s assume it is .50 per share or $500.

The cool thing is that I get the $500 immediately deposited into my brokerage account. The option position now shows up on my brokerage statement. I must not sell the stock prior to six months unless I buy back the option at the current market price. I usually hold my stocks until expiration because of how much the option price fluctuates from day to day.

Six months from now, one of two things can happen. One, the stock rises above $12.50 and the person “calls” me out of my position which is great because remember, I bought the stock for $10. The second possibility is that the stock falls below $12.50 which makes the option worthless. Why does it expire worthless? Think about it. Why would the option holder “call” the stock away from me at $12.50 when she can just buy the stock for $11.45 on the open market?

After the call expires, I then start all over again by writing another call again.

Are you beginning to see how cool this strategy is? Here is what I just accomplished. First of all, I lowered my cost basis by 5% or $500. Secondly, I drew a line in the sand and said this is what I’m willing to sell the shares for, $12.50. Third, I generated instant income that I could use for Christmas or just reinvest.

This strategy has made me very happy in bear markets because most options expire worthless and I get to keep my stock and what the option buyer originally paid me for the option!

There are a variety of software programs available that will let you spot the best stocks to buy, then write covered calls against. Of course you do not need any software. The software just saves you some research time.

As a reminder, make sure you “know what you own” and consult with a tax professional or adviser before investing your hard earned money!

Do not buy any stock trading education materials until you see Lance Jepsen’s free stock market blog at how to invest in stock market, and learning the stock market

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