world events drive option prices. Anything that creates fear in the minds ofoption traders (professionals and public investors) causes option prices tojump higher—because of the uncertainty of the future. For example, the at-tack on September 11, 2001, or the crash of October 1987.16 When investorsare complacent about the future, or when markets are calm, option pricesslowly decline. Because I don’t have any way of knowing whether optionprices will be relatively high or low when August expiration day arrives, Idon’t know whether it is best to roll now or wait. I don’t want to be in theprediction business, and I made the decision to roll without making a guessas to future option pricing.
The new positions are listed in Table 15.7D.The market continued to rally during the final weeks of the August ex-piration period, but the rate of increase slowed. By the time the third Fridayof August arrived, all my options were in the money. Over the weekend I’llhave to decide between maintaining my positions and rolling again. I wasnot assigned on any options, as they still have one month remaining in theirlifetimes. Table 15.7E lists my positions at expiration.
August was a good month, as it should be when the markets rally. I’m
now ahead over 5 percent for the year.
SEPTEMBER EXPIRATION
There are no decisions to be made after all, as the options are only slightlyin the money. I am going to maintain all positions for now. The marketsopen near the levels of last Friday. There are no trades to list, and the cur-rent positions are shown in Table 15.8A.
September  is  a  great  month  for  covered  call  writers.  The  markets  arenearly unchanged for the month, with the exception of the foreign markets,which did not hold up as well. When expiration arrives, only the EFA optionis out of the money, and I’ll be assigned an exercise notice on my other threepositions. My investment results for September are listed in Table 15.8B.
My return for the month is only 1.40 percent. There are two reasons forthat: (1) my EFA position did not return the maximum, and (2) I started the month with two options positions that were already in the money. ITMoptions do not produce as much profit as ATM options, but it was not ap-propriate to roll my positions.17
4339_PART4.qxd  11/17/04  12:57 PM  Page 177
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                   4339_PART4.qxd  11/17/04  12:57 PM  Page 178
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                                                               4339_PART4.qxd  11/17/04  12:57 PM  Page 179
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                         4339_PART4.qxd  11/17/04  12:57 PM  Page 180
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180
        4339_PART4.qxd  11/17/04  12:57 PM  Page 181
Covered Call Writing In Action
181
I intend to reinvest in the same mix of ETFs next month, but I’ll watchmy  cash  closely  as  I’ll  buy  another  100  shares  of  OEF  as  soon  as  I  haveenough cash.
OCTOBER EXPIRATION
The S&P futures were steady before the market opened Monday morning,correctly  predicting  a  flat  opening.  My  trades  are  listed  in  Table 15.9A. Option prices are a bit higher this month because there are five weeks toexpiration.
I’m reinvesting in the identical portfolio, but this month I’m writing thecall options that are slightly out of the money. My current positions alongwith the potential profits are listed in Table 15.9B.
October is an exciting month for investors—that is, if not being sure ofwhat is going to happen next is exciting for you. The market is up about 3percent within the first three days, and I have to think about rolling my po-sitions up. But before I can make the final decision, the market drops 5 per-cent  the  next  day.  There  are  still  more  than  four  weeks  remaining  untilexpiration, and the market has already experienced a decent-size rally fol-lowed by an even larger decline. Uncertainty abounds, and option pricesare higher across the board as buyers are willing to pay higher prices toplace  bets  on  market  direction.  At  the  same  time,  option  writers  are  de-manding higher premiums.
I’m  certainly  lucky  that  I  did  not  roll  my  positions,  or  I  would  havebeen whipsawed and forced to roll down.18 At current price levels, rollingdown is a serious consideration, but I’m going to wait it out for now, eventhough I’m nervous about my positions.
The market never finds a direction and spends the rest of the month ral-lying and then stumbling, only to rally again. At month end, the market haseked out a gain of less than 0.5 percent. The markets overseas fared better,gaining 1 percent. It turned out to be a good month for our strategy and I’llbe assigned on two of my four option positions.
This was a very fortunate month for me, but it does represent one of thepotential dangers of covered call writing. Whipsaws can occur, wiping outseveral months’ worth of profits. It’s never easy to roll a position when themarket is volatile. The two previous times I rolled this year, it was not diffi-cult to make the decision, as markets were moving in one direction withoutbeing too volatile. This month the volatility made decision-making precari-ous. As already noted, I was lucky. I cannot expect to be so lucky next time.
The October expiration results are listed in Table 15.9C.For the November expiration, I’m going to maintain my current portfolio.
4339_PART4.qxd  11/17/04  12:57 PM  Page 182
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182
       4339_PART4.qxd  11/17/04  12:57 PM  Page 183
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       4339_PART4.qxd  11/17/04  12:57 PM  Page 184
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184
        4339_PART4.qxd  11/17/04  12:57 PM  Page 185
Covered Call Writing In Action
185
NOVEMBER EXPIRATION
The overseas markets are lower this morning, but since I was assigned onmy short call position, I currently don’t own any shares of EFA. I’ll repur-chase this morning and write my slightly OTM call option, as usual.
The markets are quiet and I am now fully invested. I used my idle cash andnow own 300 shares of OEF. But in order to have enough cash, I was forcedto write the slightly ITM OEF Nov 57 call because the Nov 58 call would nothave  generated  enough  cash  to  enable  me  to  buy  that  extra  100  shares  ofOEF. As it is, I barely made it; my idle cash is now only $8. Because I have solittle cash, I will be unable to roll my positions up, if I were inclined to do so.
The November expiration trades are listed in Table 15.10A.Positions are listed in Table 15.10B.November was a strong month for small-capitalization stocks, but un-fortunately my portfolio is underweighted in them. I was able to participateto a small extent because my holding in VTI includes companies of all sizes.But small-cap stocks rose over 3 percent in November while the rest of themarket drifted over a narrow trading range. The overseas markets contin-ued to slide, and my EFA option expired worthless. All things considered,it was a fine month and my year-to-date profits continue to increase.
Note: Diversifying  the  portfolio  to  include  overseas  stocks  workedagainst me this month. But owning such investments reduces risk. Earlierthis year owning overseas investments worked in my favor. Overall, diver-sifying has been a benefit. Perhaps I should consider further diversificationwhen  I  reallocate  my  assets  for  the  coming  year.  It’s  something  to  thinkabout,  but  for  now,  I’ll  stick  with  my  current  portfolio  and  won’t  try  tochase the latest trend in the market by loading up on smaller stocks. The re-sults for November are listed in Table 15.10C.
TABLE 15.10A November Expiration Trades
B/S/W
Qty
BW
BW
BW
BW
5005
2
1001
1003
SYM
VTIVTI
MDYMDY
EFAEFA
OEFOEF
112.01
114.77
140.08
57.18
Price
Call
Prem
Comm Invested
Nov 112
1.70
10.0017.50
($56,015.00)$832.50
Nov 115
1.80
13.00
$347.00
Nov 141
2.20
Nov 57
1.00
10.0011.50
10.0014.50
($14,018.00)$208.50
($5,728.00)$285.50
($74,087.50)
$74,095.50$8.00
Invested
Cash StartCash Now
4339_PART4.qxd  11/17/04  12:57 PM  Page 186
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       4339_PART4.qxd  11/17/04  12:57 PM  Page 187
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187
        4339_PART4.qxd  11/17/04  12:57 PM  Page 188
188
CREATE YOUR OWN HEDGE FUND
Note that something very interesting happened this month in my MDYposition. I made more money than I thought I could possibly make from thisposition. When I calculate my best possible return, I assume the ETF risesabove the strike price and I am assigned an exercise notice. When that hap-pens, I pay an assignment fee of $20. This time MDY closed at 114.97, oronly 3 cents below the strike price. Thus, I did not receive an exercise no-tice, did not pay the $20 fee, and my 200 shares are worth only $6 less thanthey would be if they were priced at the strike price. I have $6 less but saved$20 for an increased profit of $14. Not a lot of money, but a great result!
My year-to-date profit is almost 10 percent while the S&P 500 index is
barely 3 percent ahead.
DECEMBER EXPIRATION
The markets are mixed this morning, and I reinvested my cash. Call optionprices are a bit lower than they have been recently. Not a lot lower, but five toten cents less for each option I’m selling. I could wait a day or two and hopethat option prices rebound, but I won’t do so for three important reasons:
1. Not  only  do  I  want  to  be  fully  invested  at  all  times,  but I  also  want
those investments to be hedged at all times.
2. There is no guarantee that option prices will rebound, and they might
even decline further.
3. Because options are a wasting asset, the price I expect to receive when
writing a call declines daily (all things being equal).
The trades are listed in Table 15.11A.My positions for December are listed in Table 15.11B.December is a good month for the market. The holiday rally is in fullforce both here and overseas. I never reach the point where I want to rollmy positions to higher strikes.
I  did  not  participate  in  a  portion  of  the  rising  market.  The  S&P  500index moves 5 percent higher in December and I settle for my maximumprofit, which is 1.41 percent for the month. I’m still doing better than theoverall market