Options are a powerful tool that can be leveraged for a variety of purposes, one of them being to earn supplemental income. Selling option premium is a strategy that can be utilized by investors to make passive income with options and return a profit. This particular involves put options on securities that the investor is willing to buy if the option is exercised.
One of the main benefits of selling put option premium is the potential for consistent income. When an investor sells a put option, they receive the premium upfront, which can provide a steady stream of income as long as the option remains unexercised. This is especially useful for investors who are seeking to generate a reliable source of income from their investment portfolio. Also, the collateral required to back this position is cash, not stock.
One of the drawbacks, however, of selling put options is the level of risk that could be involved. If the underlying security declines significantly below the short strike price by the time of the expiration date, the investor is obligated to purchase 100 shares of that security at the short strike price. So if someone sells the $50P on stock X while it's trading at $60 and one week later it falls in half to $30, they still have the obligation to purchase 100 shares of stock X for $50 per share. However, there are tons of creative restructuring strategies to either cap ones risk or manage it. This risk can also be mitigated by properly assessing the likelihood of a price movement and by setting appropriate strike prices.
The reason why selling option premium is so attractive to many investors is because it takes advantage of time decay. When an option is sold, the value of the option will decrease over time as it approaches expiration. This is known as time decay. As the option's value decreases, the likelihood of the option being exercised decreases, which means that the investor who sold the option is more likely to keep the premium. This is what keeps the odds of winning in the hands of the investor with the short option.
Another benefit of selling option premium is that it can be utilized in a variety of market conditions. When the market is trending upwards, investors can sell call options to generate income. When the market is trending downwards, investors can sell put options to generate income. This means that selling option premium can be a useful strategy for investors regardless of the direction of the market.
In conclusion, selling option premium can be a useful strategy for investors looking to generate income and potentially make a profit. It offers the potential for consistent income, finite risk, and the ability to be utilized in a variety of market conditions. While there are risks involved, these can be managed through proper assessment and risk management.
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