many Traders have heard of covered calls but very few know how to supercharge the returns of a covered call campaign through a simple tweak that professional options Traders use all of the time in this video we show you how we turned a six-month campaign of covered calls which yielded a 28 return into a campaign that lasted just as long but yielded over a hundred percent return with less risk I'm Mike belafuri and we are a long-standing proprietary trading firm in New York City with numerous highly successful Traders almost all of whom started their trading careers with SMB grab a pen and a notebook for this educational video that potentially can help you grow your trading account foreign [Music] hi I'm Seth freiberg and I'm the head Trader of SMB capital's options trading desk and we're contacted all the time by Traders all over the world who want to learn more about covered call strategies as a way of creating cash flow from equities that they're holding for investment or trading purposes and that is certainly valid practice in the right situations but what most Traders don't realize is that there's a much more Capital efficient way to trade covered calls that can dramatically boost your returns and at the same time reduce your risk and that's what we'll be teaching you in today's video now in order to teach you how this trade works we'll need to make sure that everyone watching understands how call options on equities work if you already know how they work just hang in there this is going to be quick a call option on a stock entitles the buyer of that option to buy 100 shares of a stock at a certain price called the strike price of that call option at any time after the call buyer buys that call option the call buyer pays what's called a premium to the seller of the option because the seller the option is taking the risk that the stock will go way above the strike price of that call option in which case the buyer can exercise his option and force the call seller to sell his shares at the calls options strike price which is lower than they're worth but it's also important to keep in mind that at expiration if you've sold a call and the market closes below the strike price of the call then unless the call was previously exercised the call expires worthless and the call seller just Pockets the premium so that's how call options work covered call starts out with your owning 100 shares of the stock and then every month selling a call option on those shares that you own usually at a strike price higher than the stock is trading at and as we get into this upcoming example you'll see that clearly why someone would do that so let's head back to June 17th of last year 2022 and as you can see Exxon which was the trading symbol of uh XOM rallied all year in 2022 until mid-year when it experienced a pullback to 86. and so if you're bullish on XOM longer term you might see this is a buying opportunity and so suppose that you towards the end of that day bought 1 000 shares of XOM for 8606. and simultaneously you also sold 10 of the 97.
5 XOM calls which expired about a month later on July 15th well so we just mentioned the trader at that point had entered into a covered call Trade selling 10 calls representing 1 000 shares of XOM stock against the 1000 shares that he had bought that same day from a cash flow perspective you can see from this calculation that the shares of XOM themselves cost us 86 090 but you subtract from that the cash we received selling those 10 calls in the July expiration which brought in 750 because each option represents 100 shares of stock and you sold 10 of them so you multiply those two figures together to arrive at the cash inflow you got from selling those 10 calls netting your original cash outlay and your original risk on the trade down to 85 340. okay so now if we moved forward to the day that those calls expired in July 15th you can see that XOM closed at 84. 54 and so the 97.
5 calls obviously expired worthless because there's no value to the right to buy XOM shares at 97 and a half if you can just go into the open market and buy them for about 13 less so those expired worthless and he just Pockets the 750 dollars that he received initially for them and so the way a covered call campaign generally works the trader continues that same pattern of picking a price above where the Market's trading for the stock in question and selling another 10 call options about 30 days out from when the last one expired and remember he still owns those shares of XOM and so on July 15th he goes ahead and sells 10 of the 95 strike price options expiring in mid August this time for 76 cents and so as you can see from this exhibit when we look at the months of July August and September in each case the stock closed below the strike price of the co-options meaning the call options expired worthless and the trader just keeps that cash that he received when he first sold the options relative to each month now we already covered that the July options expired worthless and you can see the August options also expired worthless because the call options were again above the closing price of 94. 03 on options expiration day so that's 760 dollars also turns into profit as do the September 100 calls because again on expiration day uh in September XOM closed at 93. 26 resulting in a profit of 12.
50 this time because we received a bit more for the options in the September case and that's going to happen because prices change in the options Market as do other factors that affect options prices now turning to October the fourth month of our campaign something different happened you see for the October we sold 10 of the 105 calls for 72 cents as you can see with XOM trading at 93. 26 but by the time that October 21st rolled around though the day those October options expired XOM had climbed up over 100 and closed at 105. 86 that day well that's significant because that means that on that day your broker is going to recognize that the owner of those calls is going to want to exercise his call and buy those shares at 105 because he can immediately turn around and sell them for 105.
86 where the market closed and so your broker will automatically sell those shares to the call buyer resulting in your receiving 105 for each of those 1 000 shares plus you keep the premium you sold those calls for and so taking stock of where we are at this point as you can see we received cash for the first three months of campaign simply for selling the calls then our 1 000 shares were signed netting us a hundred five thousand dollars because we sold those 1 000 shares at 105 per share and we net out the original cost of the shares to show you our profit on the trade so far so at this point in order to resume the campaign we need to buy back those 1000 shares and simultaneously sell 10 more of the 115 calls and those ended up expiring worthless as well as the 120 calls did the ones we sold for December wherein we received a dollar thirteen and so taking a look at just the options premium we collected so far in this campaign you can see that each month we steadily accumulated cash into our account from those premiums and now let's say that we wanted to wrap the campaign up once the December options expired well on that day December 16th XOM closed at 104. 70 and so as we said the 120 calls we sold for the that expiration expired worthless now assuming we sell our shares and close the trade at this point for a six-month covered call campaign here are the results of the trade and as you can see between the cash we receive for selling the calls and the proceeds from selling the shares that we bought as part of the campaign the final profit was twenty three thousand three ninety which when you divide by the most Capital we needed to Shell out during The Campaign which was that 105 860 that we needed to re-buy the shares in October the result is a 22. 1 percent return which is obviously very strong for a six-month trade but what if I told you that we could really have made a return more than four times that large by handling this whole thing differently well that's exactly where what we're going to show you now and so let's go back to the first day of the covered calls trade which as ill recall was June 17 2022 but instead of buying one thousand shares of XOM suppose that the trader went out to June of the next year 2023 and bought 20 of what options Traders referred to as leap call options with a strike price below where XOM is trading down at 75 and as you can see those were trading for 1766 at the time and instead of selling 10 97.
5 calls for the July expiration we like we did in the original covered call example he sold 20 of those matching the number of leap options he bought down at that 75 strike expiring next year well if he were to do that he would be entering into what options Traders refer to as a synthetic covered call which is a really clever way to approve returns and cut required Capital levels and risk and so let's take a look at the cash flow of this transaction so you can understand why it's so advantageous to initiate the trade as a synthetic covered call and as you can see instead of the eighty five thousand dollars that was required by the 1000 shares of XOM in the normal covered call example he instead is able to buy the leap options for a total of thirty five thousand three twenty and subtracting out the 1500 he received for selling the 20 97. 5 calls expiring in June of 2023 he ended up only risking 33 820 to open the trade selling those same calls each month as we did before although in this case we're selling 20 remember instead of 10 the first three months end up like this because we were selling 20 calls instead of 10 resulting in a doubling of the positive cash flow for each of the first three months of July August and September now in October as you'll remember the calls expired in the money and so about 30 minutes before the market closes on October expiration day because we have no shares to be assigned we just own those leaps instead in this case we'll just go ahead and buy back those 20 calls at the 105 strike price which caused us to spend 98 cents on those so if we now look at our scorecard so far on the trade you'll see that buying back those calls cost us to spend 19. 60 for October so you'd think of that as negative cash flow netted against the positive cash flow from selling those calls in the first place coming out of the October expiration now moving forward to the November and December expirations as they did before we also just pocketed the call premiums that we sold in relation to those months and so completing the six-month campaign the six month cash flow so situation looks like this now to close out this campaign as we have no shares to sell in this case we just go ahead and sell those leap call options for 31.
60 cents a piece which ends the trade now to calculate the profit is in this case like we did before you'll see that we received cash flow for each of the six months and you also note that cash outflow for buying back the calls in October but this time instead of the proceeds from selling the shares you'll see that we pocketed the proceeds from selling the leap call options which were substantial just as the proceeds from the shares were and then of course we have to subtract the original cost of those leap call options to arrive at our final profit of thirty seven thousand three hundred dollars so let's now compare the two approaches and as you can see as we mentioned before the return on the covered call campaign was 22.
