Monday, April 28, 2014
If you're a newsletter reader, you see claims that sound totally outrageous every day...
When it comes to the "trading for income" strategies of selling puts and covered calls, you might see something like this:
I pulled these quotes directly from marketing material for my DailyWealth Trader service, which teaches folks exactly how to generate income with puts and covered calls. I guarantee those quotes are from real readers. I didn't make them up.
But that's a lot of money... Are those returns really possible? Is anybody really making that much money? And if they are... exactly how much money are they putting at risk?
What's the whole story?
I'll show you today.
If you're not familiar with the idea of selling puts and covered calls, you can learn more about how these strategies work here and here. The basic idea is that you trade off the upside of owning stocks in return for upfront income.
You can collect a lot more income if you sell options on risky, volatile stocks. But you're likely to lose money over the long term. I'm willing to accept a lower payout and stick with stocks that will keep my capital safe.
A few of my DWT favorites are Coke, Apple, McDonald's, and Microsoft. We've made at least half a dozen trades on each of them. These companies are all dominant in their sectors. They generate enormous amounts of cash. They pay above-average and growing dividends. And they're more likely to perform well in tough times than the average stock.
The trades I've recommended on these four stocks have generated an average 3.7% return. That might not sound like much, but these trades lasted just 10 weeks on average. Over a year, that will generate about 19% gains.
So how much actual cash does 19% get you? It depends, of course, on how much you put to work...
Well, if you're looking to buy a boat and sail it around the Bahamas, it won't come easy. Let's say you want to make $100,000 every year. If you're earning 19%, you'd need more than $500,000 to invest. And bear in mind, these last few years have been great for the stock market. If your returns fall to 10% or less, you're going to need $1 million or more.
Some folks – like Ulysses – might have that level of savings. And they can use their capital to generate major income by selling puts and covered calls.
But what if you don't have $1 million in the bank? Can you still make real money with these strategies?
The median household income in the U.S. is about $50,000. If you can earn 10%-20% a year selling puts and covered calls, you need $250,000-$500,000 to generate that much cash. That's still a lot... But it's much more in reach for folks who have saved up for retirement.
And if you're just getting started saving and investing, you can still use these strategies to generate a little "pocket money."
Let's say you just want an extra $500 a month to go out to dinner, buy some clothes, or save up for a vacation. At 10%-20% a year, you need to put $30,000-$60,000 to work to generate that much income.
Summing up, if you want to make six figures selling options, you should have about $1 million set aside for the strategy. If you want to make $50,000 a year, you need $250,000 to $500,000. Even if you just want some spending money, you need at least $30,000.
In other words, you might not be able to match Ulysses and his boat or Peter and his $10,000 monthly income. If you want to make A LOT of money from your investments, you need to save A LOT of money first.
But that doesn't mean you can't make these strategies work for you.
I hear from folks who are putting less than $5,000 to work at a time. They're not going to buy any yachts with their profits. They're not going to be able to quit their jobs.
But they're generating a little cash... They're getting practice with all the ins and outs of these strategies... And they're learning how important it is to earn and save if they want to get to the "buy a boat" level.
"Many individual investors tune out immediately when they hear 'options,'" Sean Goldsmith writes. "'It's too risky,' they say. 'It's too complicated... It's not for me.'" But in this success story, he shows how almost any investor can use options to invest with lower risk... and earn profits that are "far greater than what's possible by just owning the stock outright."
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