Covered Call Options While Waiting for Dividend Pay Date

Covered Call Options While Waiting for Dividend Pay Date – NOK

I was looking at my stock portfolio recently, looking to see when to expect my next dividend payment. I was also looking at my current covered call options to see when they would expire and potential new trades to make.

The analysis led me to ask myself a question…How much can I make with covered calls while waiting for my dividend pay date? I was looking at my holding of Nokia.

I’ll explain what led me to this question using Nokia (NOK) as a good example.

The Strategy

First, I’ll quickly explain my current investing strategy. I buy dividend paying stocks in lots of 100 shares, when able. I then sell covered call options on those stocks.

The covered calls have strike prices that are at the money or just out of the money, meaning that I leave room for the stock price to appreciate.

The goal of this strategy is to gain income, seeking to have the stock called away at a higher price than my purchase price. While I wait for that potential to happen, I collect option premiums and dividends. Collecting that extra income while waiting for the option contract to expire effectively reduces the cost basis of the stock purchase and increases my gains.

Buying NOK and Selling Covered Calls

So, now we will look at buying NOK as an example. NOK is only trading at about $5.50 today and pays a dividend with a yield of about 5%, making this stock good for me and my small stock account. Note that this is also a stock I would not mind holding for a long term, if it played out that way.

Here are the initial transactions I made:

6/27/16 – Bought 200 shares of NOK at $5.14
6/28/16 – Sold to Open 1 contract NOK SEP 16 2016 6.00 C at $0.13
6/28/16 – Sold to Open 1 contract NOK OCT 21 2016 6.00 C at $0.14

Commissions took a big chunk out of my option contracts. I paid commissions of $7 for the stock transaction and $7.70 for each option contract. That means I was only able to collect $5.30 and $6.30 on the option contracts, respectively, for a total of $11.60 in option premiums.

That’s not bad, but it’s nothing to write home about. But it got me thinking some more. I said to myself, what if I sell one covered call per month and the stock never hits my strike price? Would that add up to something significant?

Dividends for NOK

The dividend on NOK was at about 5% when I purchased the stock. It now stands at 5.27%. The payout is in July, but I missed that cutoff by a few weeks (cutoff was early June).

I wasn’t worried about missing the dividend payout date…until I remembered that NOK only pays their dividend annually. Oops! That means I would have to wait a full year before seeing any dividends and would have to hold the stock that long.

My strategy doesn’t lend itself to long term holding, necessarily, so I was bummed out. But I could hold a stock long term if the price continues to stay below my option strike prices.

At 200 shares of NOK, I’m looking at collecting dividends of $0.2896 per share, or a total of $57.92. That’s not bad for just over $1,000 of investment.

Dividends vs. Options

Once I realized the stock only pays dividends annually, I started crunching some numbers to compare the dividend and the covered call options. I really dug into that question about how much I could make in option premiums for the year.

For this discussion, let’s stick with 200 shares of NOK and assume a holding period of at least one year. Let’s also assume that I sell a new covered call every month at $0.13 for the one year period and the stock doesn’t get called away (stock price never goes above my strike price of $6.00 at expiration).

That gives a total dividend of $57.92 for the year, or $4.83 per month.

That also gives total option premiums of $63.60 for the year, or $5.30 per month.

The result of the number crunching shows that even though the option premiums look small, they are slightly better than the current dividend.

If I stick with my assumptions, then I can collect a total of $121.52 (dividends plus option premiums) for the year, for a total return on investment (ROI) of 11.74%.

ROI: $121.52 / $1,035.00 = 11.74%

*The total investment was $1,035 for 200 shares of NOK, including commissions.

That ain’t too shabby for a small stock position with monthly option trades. I double my ROI by making the monthly option trades. And the covered calls are setup so that I have one contract expiring each month, which is a nice convenience.

Now, this also assumes that the stock price goes basically nowhere, staying roughly between $5.15 and $5.85, which is what it has done now since June. Dividend paying stocks tend to be more stable, more conservative, and long term based companies. That lends itself to slower moving stock prices.

Bottom line: I can potentially double my returns by using covered calls on my stock position with NOK.

This won’t hold true for all of my dividend stocks, but it works out for this one. And if my stock positions should get called away when the price reaches or exceeds my option strike price at expiration, I have built in a nice profit so I can collect income there as well.

If the stock gets called away, I will earn $135.60 when it sells at $6.00 per share (my option strike price) with a 13.1% return (before dividends or option premiums). That’s a very healthy return for a short term holding period.

So I am covered (no pun intended) with just about every exit strategy. If the stock goes nowhere or goes down, I sit back and collect dividends and option premiums. If the stock goes up beyond the strike price, I collect profit on stock appreciation and some option premiums on the way. Win-win.

Do you use covered call options in your stock investing strategies? What do you think of my current strategy? Drop a comment and let me know what you think.

Or join me on Twitter to interact and see what I’m up to. Either way, thanks for reading and have a great day!

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  • Thanks for sharing your options strategy. I’m reading more and more about covered calls and cash secured puts among other investing blogs and will jump on board one of these days as I feel more comfortable. The potential ROI with options looks pretty good based on your calculations. I wish I knew more about options to give more insight but it looks like you know what you are doing.

    • Options were a foreign concept to me for a long time. I dove in head first a few years ago and some of the basics stuck, but I’m no expert. I learned that covered calls are a very conservative addition to your returns. They work best for stocks that are stuck in neutral in regards to stock price movement. I haven’t figured out cash secured puts yet, or how best to use them.

      A great blog to check out for options trades is Investment Hunting at …he’s doing more covered calls and cash secured puts lately.

      Also, a good place to learn about options is from The Motley Fool with their options guide… I’m a big fan of MF because I learned my investing basics from them years and years ago.

      Hope that helps. Thanks for the comment!

      • Thanks for the resources. I have been reading IH’s blog for a while and like to follow his trades as well. Thanks again.

  • I’ve been testing a very similar strategy. If you’re going to go down this route, I suggest switching to Interactive Brokers. At $1 a contract, this takes your ROI much higher, especially on smaller premiums trades like these Nokia ones. I’m looking forward to watching how this strategy progresses for you.

    • I’m going to have to look into Interactive Brokers. I hate switching brokers because it’s tedious, but if I can save money over the long run, it’s definitely worth it. Thanks for the suggestion.

  • Frugal Familia

    Covered calls are a great way to earn some additional cash in a sideways market like we are currently experiencing. Don’t forget about the tax implications though! You will pay short-term gains on any income received from writing the call and if your stock holding actually gets called away and you’ve owned less than 12 months you will pay short term gains on that as well.

    • That’s a great reminder about taxes! I used to get that painful reminder early in the year when I run my taxes. At this point, though, I invest in stocks and options with the knowledge that I’m probably going to pay the short-term tax rate. If I hold something for more than a year, like this NOK stock example, then I’ll pay less. But for the most part I go into stock investing expecting to pay the higher rate.

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About Brian Stephens

Brian is on a journey from massive debt to real estate mogul. Join him as he stumbles and fails on his way towards long term success. Debt isn't pretty and turning it around won't be either. His primary goal here is to tell the story and network with like minded people who want financial independence through real estate investing.

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