Feb 28, 20213 min
Updated: May 28, 2021
Happy Sunday, Gang!
Since we had a bit of a sell-off with AAPL for the past couple of days, your LEAPS option most likely lost value. Do you need to worry? Absolutely not! Since you most likely purchased a DITM LEAPS option with an expiration date for 2023 with tons of intrinsic value, you still have time to be right with the direction of the stock movement.
We're going to show you a strategy of how you can make a couple of bucks on the side to lower your cost basis of your LEAPS option while you patiently wait for AAPL to retrace back up.
So here it is. You can set up a diagonal/modified calendar spread by selling a call option against your LEAPS option. Similar to a covered call where you would sell a call option against your 100 shares, you can also sell a call option against your LEAPS option, turning it into a spread.
To do this, however, you will need to be approved of Level 3 options. We are actually giving a little sneak peak of what's to come when we launch our Level 3 series in the spring.
Okay, so this actually works best if you already have a covered call trade on AAPL and a LEAPS option. We'll explain why in a bit.
How to set up a spread on AAPL
AAPL is currently trading at $121.26 right now. If you believe that AAPL may be range-bound for the next couple of weeks, you can sell a call against your LEAPS option. If you predict that AAPL won't pass the $135 mark by April 1, you can consider selling a call at the $135 strike. To do this, you can go to your option chain, select the April 1, 2021 expiration date, and sell at the $135 strike. In return, you'll get around $100 of premium.
Here's a snapshot of AAPL's option chain:
Okay, let's talk about contingencies.
If AAPL stays below $135 by April 1, 2021, then you get the keep all $100 of the premium since the call you sold expires worthless. Woohoo! You can then resell another call against your LEAPS option to collect more premium.
If AAPL rallies up to $135 by April 1, 2021, then you will need to quickly purchase 100 shares of AAPL at around $134 before the expiration date to cover yourself. This works best if you already have a covered call trade on AAPL and that you perhaps sold your strike price at around $132. This means that if AAPL does rally up, your covered call trade will be called away, meaning that you will now have free capital to purchase your next round of 100 shares at $134 to cover your $135 strike. Essentially, you are "cycling" your 100 shares.
So why did we choose the $135 strike? Well, if you look at the delta for the $135 call option, it is around a delta 0.18, meaning that there is around an 18% probability that the price of AAPL will rally up to $135 by the expiration date. If you feel that this probability is too high, you can also consider selling further OTM, perhaps at the $136, $137, or $138 strikes. Also note that as time passes, theta decay will eat away your sold option and decrease it's value. You can also always close your position by buying back to option to lock in your profits.
Remember, if you are going to sell a call against your LEAPS option, it would be wise for you to prepare yourself to cover for your shares in case AAPL really rockets up. If AAPL does start to rally, remember that your LEAPS option will start to increase in value exponentially, as will your initial 100 shares for your covered call trade.
Have any questions? No worries! Drop us a question or you can even have a discussion with us and other members on Discord.
Stay patient! 😎
- Call to Leap Team
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