Systematic Covered Writing

... more than just covered calls!

Buy Back & Lower Example

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The Buy Back & Lower strategy is one to be used by those writers who are willing to increase the risk on a given position. It is an important Systematic Covered Writing strategy as it allows a writer to add additional cash to a position over the same period of time.  Caution should be used, for if the stock appreciates above the lowered price, action will be needed to prevent the stock from being sold at the lower price.  But . . . that's one of the reasons there is a Buy Back & Roll Out & Up strategy.  So . . . this is the 'Do you feel lucky?' strategy that is used under the SysCW philosophy.

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LEND   Accredited Home Lenders Holding Co.

DATE: August 27, 2007

Purpose: As of today, this is more a 'pondering' example . . . as the Buy Back & Lower strategy has not been used yet.  Having said that . . . please take a look at these two LEND positions currently held in the online $400k Portfolio.

Some 25 days after the second LEND position was established . . . here is what the Covered Writer is thinking.

Given that LEND has fallen from $6.97 on August 3^rd to $5.80 on August 27^th, maybe there would be some merit in combining the positions and lowering the strike price to $7.50.  So . . . for now this is hypothetical . . . but let's take a look and see how this would turn out.

The first step would be to combine the data for the two positions into one holding.  Here is how this would look in the Position Tracker with this change.

Note that there is nothing 'hypothetical' about this in that both positions already exist.  By combining the two purchases, the 'position' now becomes a 200 share holding with a cost basis of $8.98. Be aware that the position has generated 26.92% of the entire investment. 

The goal of the Buy Back & Lower strategy is to increase the amount of cash generated per unit of time.  This part of the example is hypothetical (for now), but it is this 'math exercise' that leads a writer to activity, or lack thereof.  Based on today's prices, take a look at how this position would look if the strike price was lowered to $7.50.

Here is the thinking.  Should the writer do nothing, and simply wait and see where the stock is trading in January, or should the writer be pro-active and attempt to generate additional cash now?  The reason for lowering the strike from $10 to $7.50 is based on the current news about mortgages and home sales.

If the stock does not make it back to $7.50, the position would have generated and extra $100 over the same time frame.  Conversely, if the stock moves above the hypothetical $7.50 strike price, then the writer would be better off just leaving the $10 strike price in play. What makes this Buy Back & Lower more attractive than normal is the fact that the combined cost basis is only $8.98.  The $7.50 option could just be rolled to another $7.50 option if the second possibility actually occurred.

Or . . . to deepen the plot even further, if the Buy Back & Lower were executed, and the price moved back above $7.50 before January, the writer could split a future Roll Out transaction.  Close two Jan $7.50 contracts, then sell one $7.50 and one $10 contract further out into 2008.  Ah . . . . very interesting!

As always with the Buy Back & Roll Out . . . the 'Do you feel lucky?' issue comes into play.  This position just seems to have little risk because of the combined cost basis being only $8.98.

Your thoughts are always encouraged.

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PLEASE NOTE THAT THIS EXAMPLE IS NOT TO BE CONSIDERED AS A RECOMMENDATION TO INVEST IN LEND STOCK OR ANY OTHER EQUITY.  THE INFORMATION IS PROVIDED FOR EDUCATIONAL PURPOSES ONLY.  THERE IS NO GUARANTEE THAT SIMILAR TRANSACTIONS CAN BE EXECUTED IN THE FUTURE. INVESTING IN THE STOCK MARKET INVOLVES RISKS, DO SO ONLY WITH A KNOWLEDGE AND UNDERSTANDING OF THE RISKS INVOLVED!

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The information provided above is for informational purposes only, and no mention of a particular security constitutes a recommendation to buy, sell, or hold that or any other security, or that any particular security, portfolio of securities, transaction, investment strategy is suitable for any specific person. You further understand that the Covered Writer will not advise you personally concerning the nature, potential, value or suitability of any particular security, portfolio of securities, transaction, investment strategy or other matter. To the extent any of the information available on this website may be deemed to be investment advice, such information is impersonal and not tailored to the investment needs of any specific person. Always remember that past results are not necessarily indicative of future performance.

These are the terms of use.  Why are they here?  Because the examples provided are real.  The transactions actually took place.  The dates are real, the positions are real.  Some transactions will have been executed on the day you receive the email.  What you are agreeing to, is the fact that in no way is it being suggested that you can, or should, enter a similar position.  Why?  Because that would be providing investment advice and the Covered Writer is not authorized to do that.  There is also no guarantee that similar transactions could be executed at any time in the future. Only licensed brokers are allowed to provide investment advice.  Therefore, you are agreeing that the preceding example was provided for 'educational purposes' for the sole purpose of illustrating the Systematic Covered Writing strategies.

Thank you!

SYSTEMATIC COVERED WRITING
Copyright © 2007. All rights reserved.
Revised: 08/28/07