The closer you are to retiring, the worse this market collapse has been. That's especially true if you've been counting on a stock-heavy portfolio to get you to (and through) your golden years.
The ugly reality is that if the stocks you own fell by half during this meltdown, they now need to double just to get you back to where you were prior to the meltdown. And there's no way of telling when the market will revisit those highs of a year and a half ago.
But there is a way to boost your returns in the meantime.
What can you do?
Unfortunately, it doesn't involve a time machine that will let us go back to late 2007 and sell our stocks before they tanked.
But what you can do is sell covered calls.
Basically, selling covered calls amounts to selling someone a contract to sell them your stock at a specific price on or before a particular date. You get paid when the contract is set, and if they choose to exercise that contact, you get paid when you sell the stock itself.
Repeated frequently, the extra kick of cash from selling that contract can help you rebuild your portfolio faster than simply holding on and waiting for the recovery. These days, every little bit helps.
Even better, if you structure your covered call sales properly, you can pocket a decent up-front premium, still take advantage of a bit of upside, and hold on to your stocks unless those shares rise.
Too good to be true?
The way to make all of that work is to sell out of the money call options. Those are promises to sell a stock at a specific price above where it trades today -- but only if the option-holder decides to buy from you.
If the stock rises above that level before the option expires, you may be required to sell your shares, but you will have captured both the option premium and a bit of the gain along the way. If, on the other hand, the stock goes nowhere -- or even drops -- you hold onto the option premium and get to keep the stock, as well.
While you won't get all the benefits of owning a stock that rockets to the moon, you will be locking in a decent option premium. In addition, if your stock does get called, you could potentially pocket a return in a month that most investors would have loved to earn in the past year.
Not a bad outcome for merely selling a promise. Here's what the potential outcome would look like for a handful of well-known companies:
|
Company |
Recent Stock Price |
April '09 Call Option Strike Price |
Option Premium |
Option Premium Yield |
Maximum Return if Called |
|---|---|---|---|---|---|
|
ExxonMobil |
$69.80 |
$70.00 |
$1.32 |
1.9% |
2.2% |
|
IBM |
$97.69 |
$100.00 |
$2.60 |
2.7% |
5.0% |
|
General Electric |
$10.28 |
$11.00 |
$0.52 |
5.1% |
12.1% |
|
Apple |
$106.10 |
$110.00 |
$3.35 |
3.2% |
6.8% |
|
PepsiCo |
$51.12 |
$52.50 |
$0.85 |
1.7% |
4.4% |
|
McDonald's |
$54.42 |
$55.00 |
$1.45 |
2.7% |
3.7% |
|
Monsanto |
$84.55 |
$85.00 |
$4.40 |
5.2% |
5.7% |
Key things you must know to be successful
Although selling covered calls is simple, it does require you to pay attention to the details.
- This strategy works best in a tax-sheltered account like an IRA. In an ordinary brokerage account, the tax from the options income and/or short-term gains can seriously erode the returns you might otherwise achieve.
- Options are typically sold in contracts that cover 100 shares at a time. If you don't own enough stock to fully cover calls that you write, this strategy becomes extremely risky. As an option seller, you are obligated to deliver the stock if it's called away from you. If you don't own enough shares, you could be forced to buy the stock at a high price to sell it at your lower, contractually obligated price.
- Broker commissions for options typically consist of both a per-transaction charge and a per-option contract fee. And, of course, if you're assigned to sell your shares, you may also incur a sales commission. Because you're potentially dealing with many transactions when you sell covered calls, it's extremely important to use a low-cost discount broker. Otherwise, your broker will make money, and you won't.
Start rebuilding your nest egg
Selling covered calls is just one strategy you can use to make the most of your portfolio, no matter what the market is doing.
At Motley Fool Rule Your Retirement, we want you to have all the tools available to enable you to regain the retirement that may seem to be slipping away amid this turbulent market. Making smart use of selling covered calls can help you rebuild your nest egg faster, just by using stocks you already own.
If you're ready get started recovering the retirement that you've worked so hard to earn, join us today. To learn more or start your no-obligation 30-day free trial, click here.
At the time of publication, Fool contributor Chuck Saletta owned shares of General Electric. PepsiCo is a Motley Fool Income Investor recommendation. Apple is a Stock Advisor pick. The Fool has a well-covered disclosure policy.
