How to Create Income: My 3-Step Process
Creating passive income through stock trading is a powerful strategy that can provide consistent returns with the right approach. In this blog, I'll break down my 3-step process to help you generate income through covered calls. Let's dive in!
Step 1: Analyze Your Stock and the Chart
The first step in generating income through covered calls is to thoroughly analyze the stock and its chart. This involves understanding the stock's performance and identifying key technical indicators. For example, let's take a look at Netflix.
Key Actions:
- Identify a Stock: Choose a stock you want to own based on your research.
- Check the 50-Day Moving Average: Ensure the stock is trading above the 50-day moving average, which indicates a positive trend.
- Draw Trend Lines: Identify resistance levels by drawing trend lines. For Netflix, if it breaks through the trend line resistance, it could signal a potential breakout.
Step 2: Determine the Price Action on the Options
Once you've identified a stock with a favorable chart, the next step is to analyze the options chain to determine the best strike prices for your covered calls.
Key Actions:
- Choose Expiration Dates: Select options with suitable expiration dates. For instance, I prefer going out to the Octobers to give plenty of time for the trade to develop.
- Find High Delta Options: Look for options with a 90 Delta, as they provide a good balance between risk and reward. For example, the 460 strike price for Netflix has a 90 Delta and trades for $169.20.
- Evaluate Out-of-the-Money Calls: Identify out-of-the-money calls that provide a good premium. In this case, selling the 615 strike price call for $9.50 provides substantial "juice" (income from the premium).
Step 3: Calculate the Returns
Finally, use a calculator to assess the potential returns from your covered call strategy. This involves understanding your breakeven point and the potential gains from the premium collected.
Key Actions:
- Input Key Data: Enter the stock price, the cost of buying calls, and the premium from selling calls into your calculator.
- Calculate Gains: Determine the percentage gain from the trade. For our example with Netflix, the trade shows a 5.6% gain on the juice in 10 days, which annualizes to 217%.
- Assess Trade Size and Income: For a $448,000 trade, the potential income is $2,850 in 10 days, demonstrating the power of this strategy.
Life-Improving Tips
- Continuous Learning: Stay updated with market trends and continuously improve your trading strategies.
- Risk Management: Always have a risk management plan in place to protect your capital.
- Diversification: Diversify your investments to spread risk and enhance stability in your income.
FAQs
What is a covered call?
A covered call involves holding a long position in a stock and selling call options on the same stock to generate income.
Why use a 50-day moving average?
The 50-day moving average helps identify the stock's trend and potential buying opportunities when the stock is trading above this average.
How do I choose the right strike price?
Choose a strike price that provides a good balance between premium income (juice) and the likelihood of the stock reaching that price.
What is "juice" in options trading?
"Juice" refers to the premium income collected from selling call options.
Is this strategy suitable for beginners?
Yes, covered calls are a relatively straightforward strategy suitable for beginners looking to generate income from their stock holdings.
Call to Action
Ready to start generating regular income from the stock market? Download my book "Regular Paychecks" for free and receive a mini-course via email to guide you through the philosophy and practice of trading covered calls. Click the link below to get started and take control of your financial future.
Generating passive income through covered calls is a practical and effective strategy for investors. By following a structured approach—analyzing your stock and chart, determining the price action on options, and calculating potential returns—you can make informed decisions that enhance your portfolio's performance. Remember to continuously learn and adapt your strategies, manage risks diligently, and focus on quality stocks. With dedication and the right tools, you can achieve financial stability and create a reliable source of income from the stock market.
