I want to start decreasing my capital commitment to long delta positions with SPX at record levels. I will use AAPL as an example. AAPL currently is at $130.
Here is an potential covered write. Buy 100 shares at $130 and sell 1 June 132 call at $2. In a retirement account, the margin or capital to put up for this trade would be about $12,800.
This number was calculated taking the full cost of buying 100 shares of stock minus the $200 premium.
An alternative that would require much less capital would be an Long Diagonal. Buy 1 August 110 Call at $21 and Sell 1 June 132 call for $2.
The total capital outlay would be $21 minus $2 or $1900. This is over 6 times less capital than a conventional covered write. The long position deltas starting out with the Long Diagonal would be about 50.
That means for the first $1 up from $130 to $131 in the stock , we would make about $50 on capital of $1900. With the Covered Write, the long position deltas starting out would be about 59 deltas.
That means if AAPL went from $130 to $131 today, we would make about $59 on capital of $12,800. Would you rather make $59 on $12,800 of capital or $50 on capital of $1900?
This is the reason I like Long Diagonals. With the market at very high levels, the long Diagonal almost duplicates the profit results of a conventional covered write on the upside, BUT I’m putting a lot less of my capital at risk with the market looking pretty frothy!!
And the yield potential on the capital I am committing with the Long Diagonal is much higher than the yield potential on the capital committed to the covered write.
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