Take WHX.  WHX’s Sept. 13 calls for 2.5 strike was 2.65 and for 5 strike was o.2.  If one writes a covered call for strike 2.5 before the ex-dividend day (Aug. 15th),  buy 10000 shares WHX at 5.11, sell 100 contracts of Sept. 13 call at strike 2.5 for 2.65.  Net debit: $2.46 x 10,000 (1 contract = 100 shares) = $24600.  Dividend payment is $0.53/share x 10000 = $5300.  By Sept. 13, if WHX price is above $2.5, the shares are called away (at $2.5/share), the net result is: $25000 – $24600 + $5300 = $5700.  5700/24600 = 23%.  The margin requirement is about 30%, so the net return is 23% x 3 = 70% in one month.

The call strike should be greater than the sum of (the current stock price – dividend).  The Stock price may drop by the amount of the dividend on the ex-dividend day, but if the stock price is still above the call strike, one can allow the stock shares to be called away while keeping the option premium and the dividend.

Note: one thing to watch with this strategy, however, is the call away of stocks before ex-dividend date.  Most of the high dividend stocks don’t have much option time value.  Only stocks with high dividend and high option time value are good candidates for this strategy.

Dividend Calendar: http://www.thestreet.com/dividends/index.html

How do I determine which one I should do?  Here is my

• For the Jul $100 calls, I rolled up (i.e., bought back the short calls and sold simultaneously another call): bought FFIV Jul $100 call and sold Aug $100 calls for a profit of $2.5/sh.  [$2.5 times x number of my contracts x 100 (each contract has 100 shares of underlying stock)] / [maintenance requirement (i.e., the cash I need to have in my trading account for this investment)] x 100% = 8.2%.  My return is 8.2% in 1 month (or annualized 98.4%). My strike price is 10% in the money (pretty safe).  This is a safe and yet quite profitable investment.  So I decided to roll up.
• For the Jul $97.5 calls, I rolled up (bought July $97.5 call and sold to open Oct $100 call) with a profit of $3.1/sh.  This trade not only gave me $3.1/sh cash in my account, but also raised my strike from $97.5 to $100.  So my net profit is $3.1 + $2.5 = $5.6/sh.  My return in 3 months (expiring in Oct) is 18.38% (or annualized return of 73.52%).  Again, the $100 strike is 10% in the money, i.e., even if FFIV drops from the current $112/sh to $100/sh in 3 months, I’ll still make a 18.38% return.  This is a good deal, so I did it.  Please note that I increased the strike price from 97.5 to 100.  I did so b/c I anticipate the stock market to enter a post-summer bullish phase until at least the year end.  Why did I choose Oct expiration? This is because when you increase your strike, you’ll have to pay more to buy back than to sell open.  If FFIV falls below your strike, that becomes your real loss.  So one lesson I learned is that I (almost) never pay out of pocket to roll up.  I chose Oct expiration because the roll up produced a net premium into my account.

The above case shows how I use the roll up technique to deal with a major problem of covered call that most newbies don’t know how to deal with: capped maximum return.  With roll up, there is no capped maximum return on covered calls.  You can continue to roll up the expiration date and/or strike price to keep up with the rising stock price.

Take home lesson:

• CRM has gone up a lot.  We are still in a bull market.  I expect CRM to stay at this price level or go higher.  Therefore, my previous strike price at 125 is a bit too deep in the money.  Although safer, it’s not as profitable.  So I wanted to gradually go up on the strike price, but not too fast to put myself in harm’s way.  That why I rolled up from 125 to 130.  Why did I choose Aug expiration at 130?  Because Aug 130 options were selling at slightly higher than the prices of May $125 options.  When I rolled up my spread, I didn’t have to pay any money.  Instead, I received $0.3 per share.  This way, in case CRM prices come down, my value in CRM stock per se will come down.  (But if I hold CRM long enough, I expect CRM price to bounce back. )  But I won’t lose any money on the options, since today’s roll up I made money ($0.3/sh).  Should the options expire worthless by Aug 20, I won’t lose any money.  Consider another scenario: rolling up from 125 to 135.  If I bought back my May $125 options and sold Aug $135 options, instead of receiving $0.3/sh, I’d have to cough up $3.2/sh.  This is higher risk with higher potential gain.  If CRM stays above 135 by Aug expiration, the extra profit would be $1.8/sh (5 – 3.2).  But if CRM drops below 135, particularly if it drops below 130, my potential would even higher.  Should this happens to me, not only I’d lose money on CRM stocks, but also on options.  So one lesson I learned: Do not pay extra out of pocket when you roll up (with exceptions). Better be safe than sorry.

OPEN stock price was 92.15 on 3/21/11 when I started my positions.  During the past 3 months, OPEN went to as high as $115.62 on 4/25/11, but today it closed at $91.3. If you owned OPEN shares only, you would have lost about $1/sh.  But using covered calls, I have gained ~$11/sh so far.

1. Steady profit
2. Less risky than owning stocks alone
3. Guaranteed profit from premium selling.

What is a Covered call?  Covered call means that you buy certain shares of a stock and then sell equal number of options at a certain price (called strike price, or simply strike) with certain duration (called expiration).  When you sell the call, the buyer pays a premium that is above the current stock price (this premium is called time value).  Covered call sellers primarily make money by selling time value.  The main feature of time value is that with the time goes by, time value decreases.  Every thing on the Wall Street changes.  One thing that never changes is that Time Value always decreases with the time going by.  This is the where I make my money.  Covered call, in essence, is similar to gambling house.  In Vegas, gamblers lose money, but the house always comes out a head.  In covered call, there are gamblers who bet that certain stock will increase in the future.  The covered call sellers then make it possible for those people to bet.  The gamblers may make money or they may lose money.  But the covered call sellers always keep the time value.  Covered call has its pros and cons.  The main disadvantage of covered call, some of you may argue, is that when a stock goes up, I make only a small portion of the increase in the stock price.  This, indeed, was the problem I had.  But then later, I figured out how to deal with this problem: rolling up.  With the rolling or rolling down, I have been able to deal with markets that either go up or come down.  Please check out other case studies in this space to see how I use the modified covered call strategy to trade in bull, swing and even bear markets.

Today’s trade: Bidu spread: Long 135 call, short 140 call, expire in 4 days.  Spread cost: $4.15/pair.  Potential profit: $0.85/pair.

Here is the reasoning.

1. Here is my positions of bidu before my trades today: I am long bidu shares and short bidu Sept 105 call.  There is still 7.6% profit left (time value/margin requirement) for 4.5 months.  This is very safe (bidu has to drop $45 or ~30% before my profit will be hurt) but the return is no longer sexy anymore (annualized return of 20%).  (This is why I say I can nearly guarantee 10% or more return under the current market conditions).
2. The Chinese internet stocks, such as sina, sohu, have been reporting great earnings and the stocks have been soaring.  Besides, Bidu has been reporting great earnings in the past quarters and its chart looks picture perfect. The near term market condition is bullish (chartadvisor.com and schaeffersresearch.com)
3. Even if bidu misses and the stock drops, I will lose money on the spread that I created today.  But the Sept 105 call will also drop in price.  My plan, if this scenario plays out, is to roll up the Sept 105 call (a vertical roll up which will create more time value, hence create an annual return of more than 20%).  So this spread acts as a hedge.

I placed a bull debit spread trade which was executed as follows:  buying back my Apr. 21 FFIV 95 at $12.42/sh, selling May 21 $95 calls at $13.52 with a net credit of $1.1/sh.  The total profit received today divided by the money I used (=margin maintenance requirement) = 3.72%.

Interpretation: Instead of buying the calls I sold for a loss, I rolled up my short calls to next month with a 3.72% monthly return (annualized return of ~45%).  If FFIV stays above 95 and if FFIV continues to have the current time value, I should be able to roll up month after month for a 3-4% monthly return.  Also keep in mind that this is a very safe investment.  Why?  Because my strike of 95 is ~12% in the money (ITM).  In other words, even if FFIV loses 12% of its value, it will still not touch any of my profit.  This is why I say using covered calls with modifications, you can make very handsome annual returns that can beat many Wall Street professionals.

One principle that I use when rolling up like this is that I almost never pay more money to roll up spreads, just in case the stock comes right back and fall below the strike price.

My other trades of the week, bull spreads of bidu, pcln, lvs and ffiv are making me very handsome money.  All these spreads will expire or be executed today.  Not counting my covered calls, just these spreads are making me more money than many people’s one year salary.

My trades of FFIV calls elegantly illustrate the beauty.

I own 11100 shares of FFIV.  I am short 77 contracts of FFIV at strike of 100 (Exp July 2011).

3.23.11: sold 111 contracts FFIV Mar 25 at 95 @ 1.3.  FFIV closing price: $95.67.

3.25: rolled up 111 contracts FFIV from 3/25 to 4/1, took in $1.78/share (bought back 3/25 @1.39 and sold 4/1 @ 3.17) due to expiry.

3.31: FFIV remains above 95, so I rolled it again.  This time I paid $6.8/sh to buy back and then sold @8.1 for 4/16 strike 95.  Took in $1.3/sh.

4.15: FFIV is bouncing around 95.  I rolled it up to 4/21: paid $0.6 to buy back and sold $5 for strike 95 at 4/21 expiry. FFIV closing price: $94.69.

In summary, for the 3 weeks ending 4/16,  the net profit is $4.38/share.  Profits/my investment (manta requirement)=15%

Take home message: FFIV is trading in a range now.  There is not much net change in FFIV prices, but using this strategy, we successfully booked 15% profits.