To be fair, covered calls typically generate a greater frequency of taxable gains and losses than a long-only strategy, so it is clearly preferable to sell covered calls on stocks held in a tax-deferred retirement account (see On the Money). The bull market that has been in effect since the March 2009 low has been one of the most powerful bull runs of the past century, so we can forgive the at-the-money covered-call strategy for not outperforming during this unique period. Moreover, in all time periods except the past three years, both covered-call indexes outperformed. What's amazing is that the covered call strategy's outperformance is so consistent over different time periods.Ĭonsider the table, "Covered Calls Outperform Over All Time Frames." Whether you look at periods as short as one year or longer periods up to 20 years, the result is the same: At least one of the covered call indexes outperformed the S&P 500. Selling covered calls reduces portfolio volatility and, consequently, improves annualized returns. Losses are more damaging to a portfolio's wealth accumulation than gains of an equal percentage are beneficial, so reducing risk through income generation should be a paramount consideration for any serious investor. That's a powerful testament to the importance of an income-based investment strategy that reduces portfolio volatility by lessening potential losses in exchange for lessening potential gains. Consider that the S&P 500 rose 360 percent during this 23.5-year period, from 273.50 at the end of June 1988 to 1257.60 by the end of December 2011, and yet a covered-call strategy that generated monthly income in exchange for capping monthly gains still outperformed a long-only S&P 500 portfolio. The contrast in performance was dramatic (see table "Covered Calls Outperform over the Long Term: Return and Risk").īoth S&P 500 buy/write indexes beat the S&P 500 index while incurring less volatility-the best of both worlds.
Many investors think of covered calls as defensive because they provide an income cushion, which is true, but they're also a bullish strategy that often outperforms just owning the shares.Ī new study by Asset Consulting Group (ACG), covering the period between June 1988 and December 2011, underscores the superiority of covered calls over a simple buy-and-hold strategy.ĪCG's study compares the S&P 500's return with the return of two S&P 500 buy/write indexes: the CBOE S&P 500 BuyWrite Index (BXM), which sells S&P 500 covered calls every month at strike prices "at the money" (i.e., the same price as the underlying index) and the CBOE S&P 500 2% OTM BuyWrite Index (BXY), which sells covered calls every month at strikes 2 percent above the price of the underlying index.įor example, if the S&P 500 were trading at 1,000, the BXM would sell call options with the strike price of 1,000 and the BXY would sell call options with the strike price of 1,020.
I demonstrated how you could have sold periodic covered calls on Chevron-a stock that appreciated 28.7 percent over a two-year period-and still would have outperformed a simple buy-and-hold strategy. In an article for Personal Finance, an investment advisory service from Investing Daily, I debunked that myth by providing a real-life example involving Chevron Corp ( CVX). Unfortunately, many investors are under the mistaken impression that this strategy underperforms in bull markets. Selling covered calls generates additional income and lowers the break-even cost basis of stock you already own, thus reducing the downside risk of stock ownership at all price points. Today's rock-bottom interest rates and overpriced financial assets have created a low-return investment world that requires proactive yield-enhancement techniques such as covered calls, to generate the additional investment rate of return needed to retire comfortably.
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