[11 March 22 Trades] Why I Close My Covered Call Positions & Roll My Tesla PUT Contract

The stock market closed lower on Friday (11th March 22) as uncertainties over the Russian-Ukraine war and interest rate hikes continued to induce fears among investors.

In this situation where stocks are falling, it is actually advantageous to covered call seller because the premium gets lower and it is possible to close the contract earlier through buying it back at a lower premium.

The current share prices are not near or above Strike Price (SP) so there is no urgency to close the contract to avoid a loss as the contract will likely expire worthless if the share prices stay at current value or continue to fall. The expiration dates are also 2 to 3 weeks away and there is still time value left in the contract.

As options seller, we want to close the contract with as low a premium as possible or let the contract expire worthless so we can collect maximum premium. So, why did I close the below positions?

The main reason of closing these contracts early and locking in the profits is because there is a critical event coming up next week, which is the Federal Reserves (FOMC) meeting that is happening on 15th and 16th March 22.

The outcome of the meeting is likely to have a great impact on the stock market. If the Fed decides to be dovish and raise interest rates at the expected 25 basics points, or even delay the date to raise interest rate amid the uncertainties of the war, the market is likely to rebound and share prices will surge upwards.

This outcome may push the share price of the underlying stock to exceed the strike price that was agreed for the covered call contract. In this scenario, the contract is likely to get exercised and 100 units of shares will be sold on expiration date or even earlier.

The surge in share price will mean a significant increase in premium. To prevent the contract from being exercised (possibly due to SP much lower than the seller’s breakeven average price of the stock), the option seller can buy the contract back, but most likely at a loss because the premium he has to pay now is higher than the premium he received when he sold the covered call contract. I do not wish for this scenario to happen as most of my covered call contracts are sold at a strike price that is lower than my average (breakeven) price.

There is a group of covered call options sellers who do not have to be concerned if there is a rally in the stock market. They are the options sellers who are comfortable with selling their shares at the contract strike price. However, a strong rally may mean they could lose out on potential higher profits as share price will far exceed the strike price.

Assuming the Fed decides to be hawkish and goes agressive on the interest rate hike, the market is likely to fall further, which would dictate further downtrends and possibly causing a recession in the US economy. Till then, there will be plenty of opportunities to sell covered contracts to regain some losses when the the stock market stays sideways or downwards. Therefore, I am closing as many of my covered call contracts as I can before the FOMC meeting on 15 and 16 March and I will wait till the meeting is over before planning to sell my next round of covered call contracts.

Rolling Tesla PUT Contract

The Tesla PUT contract that I sold on 4th March 22 has a drop in premium and I close it for to get a profit of USD290. I then open a new contract to sell another round of PUT for Tesla stock with a later expiration date.

The details are as follow:

Opening the PUT Contract:

Contract Type: Sell Cash Secured PUT
Date of Contract (Open): 4th March 22
Strike Price: USD700
Expiration Date: 8 April 22 (35 days contract)
Premium Received: USD1990
Returns: 2.84% (1990/ 70000)

Closing the PUT Contract

Contract Type: Sell Cash Secured PUT
Date of Contract (Close): 11th March 22
Strike Price: USD700
Expiration Date: 8 April 22 (35 days contract)
Premium Paid: USD1700
Profits: USD290 (1990 – 1770)
Returns: 0.4% (290/ 70000)

Opening a 2nd PUT Contract:

Contract Type: Sell Cash Secured PUT
Date of Contract (Open): 11th March 22
Strike Price: USD700
Expiration Date: 14 April 22 (34 days contract)
Premium Received: USD2250
Returns: 3.21% (2250/ 70000)

By rolling the contract, I actually earned a higher overall premium with the same strike price, when I average out the returns from the 2 contracts as compared to the returns that I get if I were to stick to just selling one PUT contract.

Assuming in both scenarios, Tesla’s share price will be higher than USD700 on expiration date.

Scenario 1 (No rolling of PUT Contract)

Premium Collected: USD1990
Contract Duration: 36 days
Average Premium Per 30 Days: USD1658 (1990/36 x 30)

Scenario 2 (Rolling of PUT Contract)

Premium Collected: USD2540 (290 + 2250)
Contract Duration: 41 days (7 + 34)
Average Premium Per 30 Days: USD1858 (2540/41 x 30)

I hope this sharing has been useful to you in some ways and thank you for reading through. If there is any part that you do not understand, feel free to leave a comment below. Cheers.

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