Breaking Down My Favorite Income Strategy

In yesterday's essay, I introduced my favorite income strategy along with an analogy on how to understand how it works... Today, I'll explain some more details you will need to know in order to take advantage of selling put options. Before we go through the full mechanics of how these trades would work, let's get […] Not rendering correctly? View this e-mail as a web page [here](. [Empire Financial Daily] Breaking Down My Favorite Income Strategy By Enrique Abeyta --------------------------------------------------------------- [Have you heard of 'SWaB'?]( More than 100 countries around the world are rolling out a system called "SWaB" that could have a bigger impact than the Internet in the days ahead. Here in the U.S., it's already being implemented in 38 states and counting. This year, massive investments are pouring into this innovation from some of the richest people in the world – like Elon Musk, Jeff Bezos, and Warren Buffett. Even the world's most powerful companies, like Apple, Microsoft, and Google, are spending billions to onboard it. That's because every single modern technology – 5G, artificial intelligence, blockchain technology, IoT, robotics, quantum computers, and EVs will have to switch over to SWaB to stay relevant. [Get the details here](. --------------------------------------------------------------- In yesterday's essay, I introduced my favorite income strategy along with an analogy on how to understand how it works... Today, I'll explain some more details you will need to know in order to take advantage of selling put options. Before we go through the full mechanics of how these trades would work, let's get some basic options language out of the way so you can start to understand them better and become familiar with using the terms... - Derivatives An option belongs to a class of financial instruments known as "derivatives." A derivative is something whose value comes from – or is "derived" from – another underlying financial instrument. So, for example, iPhone maker Apple (AAPL) has shares of common stock which trade freely. Any other financial instrument whose value is based on the price of Apple stock itself would be classed as a derivative. - Options An option is a type of derivative that gives you theright,but not theobligation,to buy or sell an asset from or to another party at a pre-determined price on or before a particular date. Put simply, an option is a contractual agreement between two parties: the buyer and the seller. The seller doesn't have to own the asset in order to sell an option, and the buyer doesn't have to buy the asset in order to buy the option. The contract is based on three main agreements... Unlike buying shares outright, where you can hold onto them for as long as you like, options have an expiration date. You can buy or sell short-dated options that expire within a couple of days, evenoneday. But you can also buy options that expire after a month, three months, or up to five, 10, or 20 years. Monthly options expire on the third Friday of the month, while weekly options expire every Friday except for the third Friday of the month. On Fridays when the markets are closed, options expire on the preceding Thursday instead. When buying a call option, the buyer is purchasing acontractthat gives the right, but not the obligation, to buy an asset at a pre-determined price on or before an expiration date. That pre-determined price is called the strike price – it's the amount at which the buyer can "exercise" his option to buy the asset. You can buy options not just on a particular stock, but also on an exchange-traded fund ("ETF") or an index. The underlying asset is simply the stock, ETF, or index the options contract is referring to. Keep in mind that a single option contract represents 100 shares of the underlying stock. In addition to these three concepts, let's briefly look at some other terms investors use regarding options: Call options give the buyer of the option the right, but not the obligation, topurchasean asset at the pre-determined strike price by the expiration date. When selling a call, the seller assumes the potential obligation to sell shares at the strike price. Put options give the buyer of the option the right, but not the obligation, tosellan asset at the pre-determined strike price by the expiration date. When selling a put, the seller assumes the potential obligation to buy shares at the strike price. The premium is the price of the option – the cash that the option seller collects up front from the option buyer. Finally, the "bid" is the highest price that buyers are currently willing to pay for an option, while the "ask" is the lowest price that sellers are currently willing to accept for that option. With the language of options out of the way, let's see how it breaks down with a hypothetical example... Let's say shares of electric-vehicle maker Tesla (TSLA) are trading for around $175. You like the company and want to own the stock... But just like in the sweater example I told you about yesterday, you're interested in owning shares of TSLA if they fall to $150. You like Tesla's stock at $175 per share, but you love it at $150 per share... and are willing to own it at that price even if it were to temporarily drop below that share price. You could wait for TSLA shares to fall to $150 and then buy them at that price... but if it never gets there, you're left empty-handed. --------------------------------------------------------------- Recommended Link: [Heartbreak for America in 2023?]( Inflation and mass layoffs are the story of the year. But according to one financial news legend, it's just the beginning... Inflation is causing a new phase in America not seen in two decades... and millions of Americans are still at risk. [Click here to hear his important message](. --------------------------------------------------------------- There's a much smarter way to execute that trade... Just like when the store owner paid you $5 for agreeing to buy that sweater from him for $40 at some point over the next two months, you could enter into a contract with a buyer to agree to buy TSLA shares for $150 over a certain time period, let's say up to two months from now. In exchange for entering into that agreement, you collect a premium from the option buyer. In this specific case, the market has priced that at $10 per share. You've just sold a put option to a buyer that obliges you to buy shares of TSLA for $150, even if shares drop below that price. But in return, you collected $10 per share... and you got the chance to buy the stock at a price that you wanted to in the first place. Remember that one options contract controls 100 shares of the underlying's stock... So if you sell one contract, you're agreeing to buying 100 shares of Tesla – or $15,000 worth of stock. And if the contract is priced at $10, you get paid $1,000 upfront per contract you sell. Let's say you sold one contract where you agreed to buy 100 shares of Tesla at $150 by April 21 – the third Friday of the month. Since one contract is worth $10, and each contract represents 100 shares, you receive $1,000 in total upfront premium as soon as you enter that contract. This could play out in two ways by the time April 21 rolls around... One, Tesla stays at or above $150 per share. Nobody would agree to sell you 100 shares of TSLA at $150 if they could sell them on the open market for $175 or more. So, the option the buyer purchased from you expires worthless, and you keep the $1,000 you were paid when you sold the contract. Then you're free to turn around and sell puts on it again. The other is that Tesla falls below $150. The great thing about put selling is that even if the stock declines by a certain percentage, you still make money. As per the contract, you're now obligated to buy 100 shares of Tesla from the option holder for $150 each. You spend $15,000 to buy them. However, you still get to keep the $1,000 premium that you received when you sold the option. So, your true cost is actually $15,000 – $1,000 = $14,000. In other words, as long as the stock is trading above $140 per share, this trade is still profitable. Keep in mind that you only want to be selling options on stocks that you would want to own anyway... Basically, with this example, what you would have done is create TSLA stock at a share price of $140. The $150 strike price is offset by the put option premium of $10 you collected. Remember that if TSLA shares were to trade below $150 by expiration day, you will have to come up with the money to buy the stock. Again, with the example of these TSLA options, this means you will need to have $15,000 of capital. This is where the sizing of your options positions becomes critical... A standard brokerage account wouldn't actually let you sell more options than you could afford if you had to buy the stock. If you had $30,000 in your brokerage account, then you would only be able to sell two contracts. Many brokerage accounts will allow investors to take more risk through "margin loans" and other methods... but remember to only size the trade you are comfortable with for your personal situation. Next, to look at things from the other side of our hypothetical TSLA put option trade, let's consider the perspective of the option buyer... Many investors buy put options to protect themselves against losses in a stock. If TSLA shares were trading around $175, maybe an investor was worried that the stock might trade below $150. They might "protect" themselves by buying the put option that we were selling them for $10. Like I mentioned yesterday, this is a type of "insurance" – meaning this investor could sell TSLA shares for at least $150. However, they will also have the cost of the put (the $10 premium) – so they're selling at $140 per share. If TSLA shares fall to $100 by April 21, that is pretty good protection. In this way, options are like an insurance policy... The price of that insurance is influenced by the underlying movements of the stock and the stock market. This is called "volatility." Think of it like buying insurance after a hurricane has hit. Right after the storm, demand for the insurance is very high and greater demand can drive the price higher. Most often, though, big hurricanes don't happen one right after the other. This means that the seller of the insurance can take advantage of the buyer's panic and recent experience. After a crazy year in the markets like 2022, pretty much every investor was hit by the hurricane. This means that demand for the insurance is also high – driving prices for that insurance higher also. This is why the put selling strategy is particularly well suited to this type of market... With high volatility and a lot of investor fear, there's the opportunity as the seller of put options to take advantage of that fear and get attractive prices for the insurance. Another byproduct of a fear-filled market is that more of these opportunities are created in some of the best companies and winning stocks. In a raging bull market, it might be hard to find winning stocks that get attractively oversold. But during a terrible year like the past one, many great stocks get knocked down as a result of that fear. This means that there are even more great opportunities to own these stocks at great prices. The high volatility – and sell-offs in the market overall – present some great buying opportunities in these companies and stocks... But selling put options can be better than even just buying one of these stocks outright. Keep following along right here in Empire Financial Daily's special Empire Elite Income Week... I'll continue to share more tips and ideas on how to start putting my favorite income strategy to work. You can watch the second video in my exclusive master class video series [right here](... And remember to check your inbox on Thursday at 10 a.m. Eastern time for my step-by-step walkthrough of an actual trade using this strategy. Regards, Enrique Abeyta February 7, 2023 --------------------------------------------------------------- If someone forwarded you this e-mail and you would like to be added to the Empire Financial Daily e-mail list to receive e-mails like this every weekday, simply [sign up here](. © 2023 Empire Financial Research. All rights reserved. Any reproduction, copying, or redistribution, in whole or in part, is prohibited without written permission from Empire Financial Research, 380 Lexington Ave., 4th Floor, New York, NY 10168 [www.empirefinancialresearch.com.]( You received this e-mail because you are subscribed to Empire Financial Daily. [Unsubscribe from all future e-mails](