What To Do When A Covered Call Is Going Against You
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For investors familiar with writing covered calls (or puts,) you know that sometimes the trade goes against you. It didn’t take long for the AbbVie (ABBV) trade to go against us with the latest covered call that we really quite recently wrote (just on 4/20/21.)
This was done at the strike price of $111 and I even titled the article “Rolling The Dice With AbbVie.” Highlighting the “risk” that could come, though was specifically referring to the earnings they are going to release on Friday of this week. Well, it didn’t take long for ABBV to continue its momentum higher. Essentially, we rolled the dice and it has not been going in our favor. As of writing this, it is still moving higher and is above our $111 strike.
(Source - Google Finance)
Therefore, I thought this would present the perfect opportunity to highlight some exit strategies when this happens again in the future. As an options writer, this will happen to you at some point. So no fear, this is a part of the strategy!
(Source)
Close The Position
This is one of the options available to use as an options writer. We can simply close the position. We sold the contract for $1.55 and looks like today we could buy it back at $2.51. This would result in a realized loss of $0.96 - though since we are giving up shares of ABBV potentially at $111 - we would also have an unrealized gain of $0.71 due to the share price being at $111.71. We wouldn’t have any risk of having the position called away
That certainly isn’t a terrible result and, I suppose could be utilized more by more frequent traders to just get out of the position.
I am not taking this route. Again, I want to reiterate that I will still be long ABBV shares even if they are called away. The shares I’m writing calls on I view as a separate “sleeve” of shares.
Roll Up - Roll Out - Or Both
Roll Up
The next thing we could do once again involves buying to position back to close. Once again we wrote the option and collected $1.55. Rolling up would mean that we simply keep the same May 7th, 2021 expiration date, but move up the strike price.
So we collected $1.55, can buy it back for $2.51 - then turn around and write against a higher strike price. Right now the $112 strike looks like it could net $1.95 - $113 could net $1.60, or there is also the $114 strike that showed the last trade of $1.16.
Thus, at $112 we could essentially still net $0.99, at $113 net $0.64 and $114 net $0.20. Of course, all still putting us in the positive and allowing us to potentially capitalize on getting the position called away at a higher strike, or the higher probability that we don’t have the position called away at all.
What we give up here is a reduction in that up-front net benefit. Our $1.55 turns into a reduced $0.99 if we could get the trades to execute at the last trading amounts. So really the profit/loss potentially is around these figures - adjusting for adjustments needed to get the trades to trigger.
Roll Out
The other thing you can do is roll out. Rolling out just simply means keeping the same strike price of $111 - but rolling it out on the expiration. If we use the same figures from above, we once again are looking to reduce the $0.96 loss from selling the contract at $1.55 and closing it at $2.51. If we move to May 14th, 2021 - it looks like we could collect $2.75 or a net $1.79. The reason to do this is to allow the trade to go more in our favor - collecting more “time value.”
We could go out even further, to May 21st, 2021 and that could give us $3.15 - netting $2.19 instead.
This trade would allow us to potentially keep the position if between now and then the price declined. However, there is no guarantee that it still doesn’t get called away anyway either if the price stays above our $111.
Roll Up & Out
There is also the option of doing both - rolling the strike price up and rolling the expiration date out. This would result in less of a net benefit, but it would also provide us with a chance to capitalize even more on a higher strike if it was called away. It could also result in us keeping the shares if we roll up high enough and out far enough for the trade to go in our favor.
Again, at this time, I’m not going this route either.
Do Nothing
Then there is this option - the easiest option of all - do nothing. This is exactly what I’m doing at this time. Though I’d be lying if I truly said I’m doing nothing - what I’m really doing is just going to monitor over the next few days and see where we are at.
As I’ve noted from the beginning, this is a different “sleeve” of shares. Getting this position called away could open up quite a significant portion of cash in my portfolio to generate premium from writing puts. This one is harder to quantify, as the opportunities are near limitless due to not knowing the future, of course.
If we allow ABBV shares to be called away, will we be able to produce a better overall return compared to if we held ABBV shares and took one of the other actions? As you can see, that is just impossible to answer at this time.
Conclusion
I hope this helps outline the ‘options’ that an options investor has at their disposal when a trade starts “going against them.” Hindsight is 20/20, so you won’t truly know if you made the best decision until after the fact. However, investors need to be cognizant of their choices at the very least. This also means comfortable with such choices as well - investing is a very personal and individualized thing, Therefore, no one can tell you if you are doing it “right” or “wrong.” It is investing in such a way that meets your own objectives and circumstances.
Disclosure: Long ABBV
This is not investment advice but for entertainment purposes only. Any decision to buy or sell is solely made by that individual. Speak with a financial professional to develop an investing plan that is right for your own objectives and goals.