In Response To IU’s E-Mailbag…

Alexander Wissel, Editor in Chief, Investment U

We get many interesting reader comments here at Investment U and see our fair share of positive and not-so-positive comments.

A reader recently took issue with a line in “Dump GE & Buy This Safer Income Investment Instead” that stated writing covered calls was “(the only safe options strategy).” I think they’re missing the point of the suggestion on covered calls.

In short: it is. Writing covered call options is the only way not to lose money on options. Even L.G. McMillan would agree with that. The article never mentioned anything about losses to the underlying security – which is entirely possible.

I can hear the whining starting right now, but let me address exactly how it is one of the safest options strategies. If you aren’t familiar or comfortable with options, I suggest taking a look at “Selling Call Options.” 

Additionally, if you’d like to know the second best way to use options, and one of the best ways to purchase stocks, see “Put Option Selling.”

More On Stock Option Strategies…

Options strategies are basically bets against the market and time. They seek to use the power of leverage. Unfortunately, if time runs out and an option expires worthless, it’s a bad investment. It may not have been a bad hedge, a bad bet, or a bad speculation – but it was a bad investment.

In fact, roughly 80% of options expire worthless. It’s why options have so much risk. Wouldn’t you want to be on the opposite side of that equation? It’s what covered calls do.

Let’s turn our attention to the underlying security from that option. It’s at risk when you write an option on it – you won’t be able to sell it until the option is covered or expires. During that time period you could lose money.

In a worst-case scenario you could see the value of your holdings drop to zero. But unlike the other holders of that stock, you would at least have the benefit of the amount you collected from selling the call. The collection of call premiums is what makes this strategy a safe options strategy.

There’s No Such Thing As A Risk Free Investment

Remember, there is no such thing as a risk-free investment. Some investments are safer than others, but all carry risk. A covered call is safe for it’s seller, but not without risk.

Selling covered call options is really for investors who have a timeline of at least five years who (unfortunately) have no intention of selling a particular stock. It works best in flat markets. And most importantly, it gives the seller immediate income.

Without doubt, options are much riskier than most investments. But some options strategies, like selling calls, are safer than others.

And as an additional side-note: The “worst advice ever” category is a highly competitive space, shared by these guys.

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