Mon May 1, 2006: Selling In-The-Money Covered Calls (NASDAQ-MTEX)

Options on Mannatech (NASDAQ-MTEX) currently offer a good example of how selling in-the-money covered calls instead of out-of-the-money can sometimes actually generate a higher income with less risk!

This example also shows why the tables on this site are useful for such comparison purposes.

As outlined in blue in the table below, current yield on MTEX June 17.50 calls is 10.2% while the June 20.00 call yield is only 8.2%.

Yet selling the 17.50 calls is safer than selling the 20.00 calls because of the additional downside price protection!

Calculate the break-even points.

For the 17.50 calls it's 18.43 - 2.55 = 15.88.

For the 20.00 calls it's 18.43 - 1.40 = 17.03.

The higher option premium received in the first case provides a lower break-even point, so in case the stock declines (a covered call writer's main concern) the first option is safer to sell.

So why would anyone choose to sell the second one instead, accepting a lower income with a higher risk?

Because as outlined in red in the table, if the stock rises to 20 or higher at expiration the writer of the 20.00 call will earn a total return of 17.4% due to the extra profit of 1.57 per share on the stock, while the writer of the 17.50 call would still be stuck with "only" 10.2%.

But 10.2% is not bad for a month and a half, and for income-oriented option investors focusing more on relative safety and less on speculation, MTEX options are a good example of how these tables can help to isolate such opportunities.

I've already gone over details of the percentage return calculations in previous commentaries so I won't repeat that here, but if you have any questions please feel free to email me at FreeOptionInfo@att.net.

Until next time, best of luck with your option investments!