Catching Premium Better Than Covered Calls: “Money Net” Part Deux…

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Good Morning, Traders!

Okay, so I was looking at a variation of the RadioActive Trading Income Method #5, “Money Net” strategy and had a bit of an epiphany…

It went a little like this: “Okay, so I can think of a number of cases in which I would want to do this, but can I think of any circumstance in which I WOULDN’T want to do this?”

Here’s the revelation part… I came up empty.

Why? Because after looking at all the possibilities – stock goes down, stock goes up, stock goes sideways… in each circumstance the situation AFTER doing an Income Method #5 “Money Net” trade would be better than if I had not done it.

How is that possible?

The “Money Net” I’m referring to is a ratio call spread done at a credit. By buying one call at a lower price and selling two at a higher price, while the stock is trading at a price between the two strikes… it can be possible to take a credit on the front end. In the case of April 2011 options on SINA, we’re looking at picking up $1.70 in premium by selling two April $95 calls at $4.00 apiece… $8.00 total premium IN… while using some of the proceeds to buy one April $90 calls at $6.30.  This opens up some interesting possibilities:

The first really cool thing about the ratio call spread, AFTER the fact that it can be done at a credit is this: if the stock stays flat or moves up a little bit, one will pick up even MORE premium. Check this graph to the right: the spread is begun at a credit, and as the underlying stock goes up even a little in price… the amount of premium “captured” by the ratio call spread increases.

“BUT…” I’m sure you’re saying. “Kurt, because you have sold TWO calls and bought only ONE, you are NAKED on one of the calls. As SINA increases in price, the ratio call spread will eventually become a LIABILITY since you’re obligated to deliver stock at the lower price!”

Ahhh, Grasshopper 😉 Let’s not forget that I’m doing this, as I do ALL of the Income Methods, within the context of owning the stock, and the whole shootin’ match protected by a put option.

Heh… when you already OWN stock, having a short call against it is not a big liability. Let’s take a look at a Bulletproofed RPM (RadioActive Profit Machine in which the combined cost of the stock and the put is lower than the put’s strike price):

Bulletproof RPM
Now, the subject as to HOW a married put play can go from low risk to NO risk has been handled elsewhere on this blog… over and over… but bear with me. Once a married put has become “Bulletproof” it can now be leveraged to bring in more and more premium.
In the case of SINA here, let’s say that we have 200 shares protected by 2 June $95 put options. By using other “Income Methods”, we have reduced the cost basis of the stock to the place where the put options protecting it GUARANTEE a payout of at least a few dollars, no matter what happens to the stock.
Ready for something absolutely WONDERFUL?
A Case in Which Short Calls DON’T Limit Upside Potential…
When the ratio call spread is superimposed on the stock plus put position, here’s what the chart turns into:
A case in which short calls DON’T limit upside potential..!
Isn’t that just DUCKY?
See, in case SINA heads down, the guaranteed payout of this Bulletproofed RPM goes up just a touch.
Should SINA go sideways or up a bit, MORE premium is captured. See the accelerated climb between $90 and $95? If SINA happens to get a wild hair and go up toward $95, why that’s just great!
At Expiration, the short calls expire worthless and the $90 call is in the money… and can be sold! It’s like we’ve been paid to own it, and we get extra premium to boot. 🙂
Here is the best part however: Look at the chart. As the stock goes up, the long call takes over where the profitable short calls leave off. Rather than LIMITING the growth of a stock that’s headed to the moon, the ratio call spread (done appropriately according to the dictates of The Blueprint) actually takes a credit to potentially take MORE credit, while leaving the top off.
Like I said, tough to know when NOT to do a spread trade like this.
All righty, gang! Post away, I’m looking forward to the comments on this one.
Happy Trading,

About Kurt Frankenberg

Kurt Frankenberg is an author and speaker about entrepreneurship, martial arts, and trading the stock and options markets. One of several "Biznesses" he founded as a teen, The Freedom School of Martial Arts, has been in continuous operation since 1986. Kurt lives in Colorado Springs with his wife Sabrina, German Shepherd Jovi, and his ninja cat Tabi.