Do you want to make money in the stock market, but don’t want to risk too much money? If so, then you should consider using a Poor Man’s Covered Call Option Strategy. This is a strategy that allows you to profit from stock price dips while limiting your risk. We will discuss what a Poor Man’s Covered Call is, and how you can use it to make money in the stock market!
We cover:
- What is a Poor Man’s Covered Call?
- What Types of Stocks are Best for a Poor Man’s Covered Call?
- How to Use a Poor Man’s Covered Call – Real Example
- When to Use a Poor Man’s Covered Call
- Why Use a Poor Man’s Covered Call?
- PMCC versus Traditional Covered Call
- How is the Poor Man’s Covered Call Managed?
- The Risks of Using a Poor Man’s Covered Call
- Conclusion
What is a Poor Man’s Covered Call?
A Poor Man’s Covered Call is an Options Strategy that allows you to profit from stock price dips while limiting your risk. You will want to put the PMCC in stocks that you think will increase in price.
The strategy involves buying a long-term deep-in-the-money call option on a stock or ETF. This option will replicate the ownership of 100 shares of stock. At the same time, you also sell an OTM out-of-the-money Call option in the near term.
When the stock price falls, you can buy back the call option for a profit. If the stock price rises, you can hold onto the deep-in-the-money Call option and exercise it at a higher price. This strategy is also known as a ” buy-write.”
What Types of Stocks are Best for a Poor Man’s Covered Call?
Some of the best stocks for a Poor Man’s Covered Call are those that pay high dividends and have a history of increasing their dividend payments. These types of companies tend to be less volatile and more stable.
A company like MRK Merck & Co. would be a good candidate for a Poor Man’s Covered Call. They have increased their dividend payments over the years!
They also are not too high priced. So buying the long-term deep-in-the-money Call option would not be too expensive. At the same time the premium received for the short call is pretty high, providing more income.
How to Use a Poor Man’s Covered Call – Real Example
So using MRK, let’s look at the options chain. We can see that the current stock price is $94.40.
Looking at the January 2024 options, we will buy the $80 Call for $19.70. We will also sell the August 2022 100 call for $1.00. This lowers our cost to 18.70 for the entire trade.
As long as the stock moves up in price we make money on the LEAPS. If it stays below $100 short call then we make money on the short call.
When to Use a Poor Man’s Covered Call
The Poor Man’s Covered Call is a bullish strategy. You should use a Poor Man’s Covered Call when you expect the stock price to rise. At the same time, you should use the PMCC when you want to limit the amount of capital or BPR that you want to utilize for a single trade.
Why Use a Poor Man’s Covered Call?
There are several reasons why you might want to use a Poor Man’s Covered Call. First, it allows you to profit from stock price dips. Second, it limits your risk. The most you can lose is the amount you paid for your LEAPS or deep-in-the-money call.
Third, it provides downside protection since you are selling a call to collect a premium. Lastly, it can help you earn income on your stocks.
PMCC versus Traditional Covered Call
There is one key difference between a Poor Man’s Covered Call and a traditional Covered Call. First, with a Poor Man’s Covered Call, you buy the deep-in-the-money call option to replicate the stock. With a traditional covered call, you would buy the 100 shares of stock outright. This results in much less capital outlay which is the main difference and why it is called the Poor Man’s Covered Call.
You will sell a near-term call option with both the PMCC and the Traditional Covered Call. So this aspect of the trade is the same.
How is the Poor Man’s Covered Call Managed?
The Poor Man’s Covered Call is managed similarly to the way that you would manage a traditional covered call. As long as you still believe that the stock is going to increase in price, you hang onto and hold your deep-in-the-money call.
I like to buy that option out for more than 1 year and closer to 2 years DTE. It is a LEAPS option. Once the deep-in-the-money option gets to within 1 year, I may sell to close and buy to open again out at closer to 2 years. You can almost do this for free as discussed HERE.
The near-term call option is managed as we would a traditional covered call. If the stock increases in price and the strike price is breached, we can one of two things.
We can close the entire PMCC (both options) for a win. Or we can hold and wait to roll the short call option at around 21 DTE. At 21 DTE, we can roll to the next month and reposition our short call and collect an additional premium.
We will also roll our call down if the stock price drops. This allows us to collect more premium and reduce our max loss & breakeven point. We are always cognizant of our current breakeven point, and we do not roll our call down further than that. Doing so can lock in a loss if the stock price comes back up and leaves our call ITM.
The Risks of Using a Poor Man’s Covered Call
There is a risk when using a Poor Man’s Covered Call. If the stock price falls sharply, you could lose money on your investment. The most you will lose is the amount that you paid for the deep-in-the-money call.
Conclusion
A Poor Man’s Covered Call is a great way to profit from stock price dips. It is a great way of limiting your risk while at the same time generating some income.
It is best used with stocks that you would not mind owning for the long term. This is because you will be buying a deep-in-the-money call that has a long time to expiration.
Have you ever used a Poor Man’s Covered Call? What was your experience? Let us know in the comments below!