magic strike price

8/3/2019 Magic Strike Price

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Copyright Power Financial Group http://www.poweropt.com/oxp2/1

Picking the MagicStrike Price

Ernie Zerenner

President

Power Financial Group, Inc.

PowerOptions www.poweropt.com


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Introduction

Option investing has several degrees offreedom more than equity investing:Strike price

Time decayMonth selection

This talk will concentrate on the choice of

the strike price for both buying and sellingstrategies.


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Basic Covered Call

CalculationsUsing the option premium for each

strike price, our option chain calculates:

% Downside Protection % if Unchanged % if Assigned

% Probability the Stock Price will be abovethe Strike Price


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4Copyright Power Financial Group http://www.poweropt.com/oxp2/


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Observations on OptionChain

Observe the general trend in pricing asthe strike price increases: Option premium declines

% Downside protection declines % if Unchanged is highest ATM

% If Assigned increases % Probability Above declines


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6Copyright Power Financial Group http://www.poweropt.com/oxp2/

XYZ ($81) with 44days left

Strike

Price

Option

Prem.

%DnSd

Protect.

% if

Unchg.

% if

Assign.

% Prob.

Above

75ITM

$6.70 8% 1% 1% 90%

80

ATM/ITM

$2.75 3% 2% 2% 60%

85

OTM

$0.65 1% 1% 6% 18%


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How to interpret the

data High returns comes with a risk Highest return (if unchg) is ATM

Greatest safety is ITM Greatest potential gain is OTM The more the potential gain then the

lower the possibility of success basedon probability


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Back to the pointin Question:

What strike? It all depends on your own risk reward profile: Looking at the last 2 columns of % if Assigned

and % Prob. Above as a pair The lowest return of 1% has a 90% chance of

happening (highest % Probability Above)

The highest return of 6% has only an 18% chanceof happening (lowest % Probability Above)


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What Strike based onRisk

Looking at the % Downside Protection and the % IfAssigned columns as a pair: The highest downside protection has the lowest

return, but the stock price can fall and still win The highest return is possible at the highest strike

price, but it has the lowest downside protection To achieve the highest returns requires the stock

to rise in price. If it does not rise the return is

lowest of all. The highest strike price is a play on stock

appreciation not covered call income


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Real LifeExample

Retired and looking for income

Preservation of capital is more important

than speculative gains

Want a better return than a CD or a Bond

Want to reduce the volatility of my holdings


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Some of My

choices Case 1 Already own stock and

want to earn income.

Case 2 Have cash and want todo a buy / write to generate income


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Case 1 Already own

Use strikes ATM or slightly OTM Want to avoid being assigned therefore

must roll up and out if ITM. Must watch dividend exposure to avoid

early assignment.

Actively manage by buying back theoption if it declines and rolling down


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Case 2 Buy /

Write Always go ITM Sacrifice large returns for safety

As a rule of thumb limit annual gains to 20 to30% Max. Reduce the excess gain by going further ITM. Actively manage the position by liquidating

once 70 to 80% achieved.


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That was selling

options Now we discuss buying options Investors tend to pick the wrong strike price!

Choices based on number of contracts? Go deep OTM for cheap options Go ITM for high delta and low time premium


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Tool to Maximize

Returns Assumptions in developing the tool

Forecast the stock price

Time frame for the move How much will you invest Will volatility change

Based on these inputs the best return canbe calculated for every possible strikeprice


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Input Example:


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Output Example:


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Summary of

Buying Make a forecast for the stock Determine the time the move will take

How much you want to invest Then use a tool to calculate the best strike

to use based on returns.


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http://www.poweropt.com/oxp2/

Use the above URL for a 30 day FREE Trial Toll free help using the site Try these techniques by paper trading One-click trading for optionsXpress clients 877-992-7971 (toll-free)


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