There are a number of strategies in generating incomes via various instruments. These incomes can be one time off payout or be in the form of regular (yearly/monthly) payouts eg income streams.
Many people like to hold on to a portfolio of REITs, property stocks, banks/financial related stocks, consumer staple stocks, utility stocks, ETFs, and bonds so as to receive passive dividend income. Me included.
For others, they might purchase investment properties for rental income.
Other less risky sources would be via the CPF accounts. Simple strategies like transferring money from your Ordinary Account to Special Account will increase the interest yield. Or for those reaching 55 years old, they can consider using the CPF SA Shielding hack (see below) – investing your CPF-SA account monies prior to it being transferred to your CPF Retirement Account.
Implementation of CPF SA Shielding Hack using FSMOne.com (read here)
I have been reading about the concept of selling put options by Brian in his blog posts (see below).
My Thought Process On Writing a Put Option – With Actual Case Study On Citibank (NYSE: C) (read here)
You Can Still Trade GameStop (NYSE: GME) Safely, Yield Great Returns And Come Out A Winner (read here)
I see selling put options as one of the many strategies in generating passive income (albeit with a time limit attached to it and no upfront investment cash needed).
By the way, I am still relatively new to this strategy of selling put options. So feel free to leave your comments below the post, if my statements are incorrect in anyway.
I am just sharing what I know.
How to Sell Put Options to Benefit in Any Market (read here)
In the above article by investopedia.com, it mentioned the following:
“Selling (also called writing) a put option allows an investor to potentially own the underlying security at a future date and at a much more favorable price. In other words, the sale of put options allows market players to gain bullish exposure, with the added benefit of potentially owning the underlying security at a future date and at a price below the current market price.
1) Selling (also called writing) a put option allows an investor to potentially own the underlying security at a future date and at a much more favorable price.
2) Selling puts generates immediate portfolio income to the seller; puts keep the premium if the sold put is not exercised by the counterparty and it expires out-of-the-money.
3) An investor who sells put options in securities that they want to own anyway will increase their chances of being profitable.
4) Note that the writer of a put option will lose money on the trade if the price of the underlying drops prior to expiration and if the option finished in-the-money.“
There are various technical strategies and thought processes as to when and why one should sell put options. However, this post is not about that. The intention is just to give a simple step by step guide on how to do it via Tiger Brokers.
Nevertheless, for me personally, as stated by investopedia.com above, I see selling put options as a way to generate immediate passive income (eg. I would receive income the moment I sell a put option), while allowing me to purchase the stocks at a future date at a much favourable price.
Holding a stock which pays dividend and selling a put option are both generally bullish strategies. In a way, we typically hope that the stock prices of the underlying equities trend up while we receive passive income.
There are however caveats to the above thinking for selling put options.
Firstly, maybe unlike some people when it comes to choosing which put options to sell, I tend to aim for those of stocks which I do intend to own / buy (in the future) at a lower price. So in the event that the stock price of the stock does go below the strike price and I do end up owning the stocks (at that lower price), I would not mind.
Some may aim for stocks with higher volatility so as to get better selling price (profits), without thinking about whether they actually want to own the stock in the first place. In other words, getting more profit in a shorter period of time. Well, there are various reasons why some stocks are more volatile than others….. but anyway, fundamentally that is not my starting point.
Next, when we sell a put option, there is a period when it eventually expires out-of-the-money, if the stock price did not go below the strike price during that period.
Many things can happen during this period (which can range from a few days to years).
For example, if we are to encounter another crash like what we saw in March 2020, many stocks will tank. It will then be likely that the price of the underlying equities of the put option drops below the strike price prior to expiration and the option finished in-the-money (we end up owning the stocks and the stock prices continue to trend down). Frankly, in such scenario I probably would not mind owning the stocks provided that the fundamentals and earning potential of the underlying company is intact, good and growing. Since I already intend to own them earlier (when they were at a higher price).
Nevertheless, I would not go too crazy into selling too many put options (more than I can possibility cover). Otherwise, in the event of a massive crash, I would have many urgent calls to buy the stocks when their stock prices drop below my strike prices. If you are like me, just starting out and testing the water with selling options, I would suggest to not go too ‘crazy’ and take on more than you can reasonably handle at the beginning. Yes some might see it as ‘free money’ since there is no upfront investment money needed, and we get an upfront premium when we sell, but well, market crashes & corrections do happen, we just don’t know when.
On the other hand, if there are emerging news that points to the permanent deterioration of the fundamentals of the underlying companies (eg Chinese regulatory crackdown on the after-school education companies) or scandals discovered, etc… then I probably would not want to own the stocks of the company no matter how low the stock prices are.
None of us have a crystal ball… The future is unpredictable. Nobody can really predict the short term price movements. In a way, we are dealing with odds. So as with most passive income strategies, this strategy (of selling put options) is not without its own risks.
Let’s use an example.
For example, as we all know, in recent months, there have been a lot of news about the Chinese regulatory crackdown on Chinese Tech stocks. Hence, there have been relatively more volatility in their stock prices. Many of them have taken a beating to say the least.
In such a situation, I might want to take a look at my list of Chinese Tech / Growth stocks in my portfolio. After all, growth stocks in general, have more volatile stock prices than old economy stocks (well, there will always be exceptions). There might be growth stocks which I already own and do not mind owning more of them (average down), provided fundamentals remain solid. That could be one starting point.
After analysing (technical or fundamental) the Alibaba stock (9988.HK), I think that I would not mind owning more Alibaba stocks provided it drop to a lower price or alternatively if the stock price does not reach my ideal target (lower) price, I can still in the process earn some income. So in a way, it is a win-win situation (well at the point of time when considering – things might change, we never know).
At the point of writing, the stock price of Alibaba (9988.HK) is HKD 164.10. Let’s assume, if the stock price goes down to HKD 140, I would not mind buying the stock.
Having said that, that is just the starting point, if I have the time to search for good growth stocks to own (and sell put options), I would not just limit my picks to the existing stocks I have in my portfolio.
Below is the step by step guide to selling put options using Tiger Brokers.
You will first need a Tiger Brokers trading account. If you do not have a Tiger Brokers trading account yet, and intend to sign up for one, please use my referral code (below) to do so, so as to enjoy the below mentioned benefits.
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I go into Tiger Brokers. I search for Alibaba (9988.HK) in the below tab (red arrow).
Then I bookmark the stock (click on the star symbol).
Next I will click on Alibaba on the left column, then click on Options in the centre top portion.
It will bring us to the below screen. Let me do some explanation / elaboration on what we see in the table.
Here we see the Call Option on the left and Put Option on the right (highlighted in red dash lines). And at the top (red arrow), we have the expiry date of the options.
Within the Put Option box, we see the Strike prices (which is basically the price that we choose hoping that the stock price does not go below it).
We can choose various expiry dates / durations (by clicking the yellow arrow box), some durations are as short as a few days, and while other durations stretch for many months or years. See below.
Before we continue, I would suggest you click on Settings (red arrow) and adjust the visible columns to the following. See below.
The Bid price is the price people wanting to buy, and the Ask price is the price for people like us queuing to sell (obviously the higher the price the better).
In the example below, we see that for the Strike price of HKD 140, the Bid price is HKD 0.250 (with 3 offers to buy at that price eg. x3) and the Ask price is HKD 0.350 (with 10 offers to sell at that price eg. x10).
Volume shows how many options were traded. The more popular the option is, the higher the volume.
Imp Vol (Implied Volatility) is how volatile the stock is. The higher the Imp Vol, the more expensive the options will be.
Delta is the ratio that compares the change in the price of an asset, usually marketable securities, to the corresponding change in the price of its derivative. For example, if a stock option has a delta value of 0.65, this means that if the underlying stock increases in price by $1 per share, the option on it will rise by $0.65 per share, all else being equal.
You will also notice in the Call Options rows, some have dark green background while others are in black background. In the Put Options rows, some have dark red background while others are in black background. Why is that so? See below.
Coloured background = In the money (ITM).
Black background = Out of the money (OTM).
In the Money vs. Out of the Money: What’s the Difference? (read here)
An OTM option is one that has a strike price that the underlying security has yet to reach, meaning the option has no intrinsic value.
For me intending to sell put options, I would be interested in rows which are in black background (OTM) eg. upon reaching the expiry date it would be worthless, so that I would not be required to buy the stocks.
I will choose the duration to be 30 to 45 days to expiry. See below. The longer the duration, the more unknowns I face.
I will then choose the HKD 140 strike price put options and click the red sell button (Note: It is not the buy button).
I then choose the number of lots I want to sell.
Typically 1 lot of option / contract = 100 shares. However, in the case of Hong Kong listed stocks, I understand (correct me if I am wrong) that it is 1 lot of option = 500 shares (using Tiger Brokers). Hence, if the stock price goes below HKD 140, I would need to pay HKD 140 x 500 = HKD 70,000 (or around SGD 12,172.50).
I can see how many shares of the Alibaba stocks I would need to buy by looking at the Max Loss and Max Profit figures. In the example above, Max Profit is HKD 1,290, Max loss is HKD 68,710, with the sell price of the option at HKD 2.58.
Max Profit is thus 500 (no. of shares for one lot) x HKD 2.58 (sell price).
If we add up the Max Profit and Max Loss, the amount is HKD 70,000 (HKD 1,290 + 6,8710), which is equal to 500 shares of 9988.HK at HKD 140 stock price.
Upon selling 1 lot of put option, I will receive HKD 1,290 or approximately SGD 223 (Max Profit), before the fees / commissions.
I can also choose to sell via Limit Order or Market Order (same as how I would buy stocks). Using the Limit Order, I can choose a higher selling price and hope that it gets filled within the day (if I choose the Time-in-Force as ‘Day’). It might never get matched/filled. Or I can just choose Market Order to sell at the (lower) bid price immediately.
Once I click the Sell button and type in my password. I can see my filled orders in the Order section below. Alternatively, I can go to Position, to see my Put Option holdings (Note: Under the position column, I will see a negative figure). See below.
3 Possible scenarios:
Scenario 1: In the money.
If the stock price of Alibaba goes below HKD 140 before the expiry date, I will be required to buy 500 shares of the Alibaba stock.
So be sure to have sufficient liquidity (cash or margin) in your Tiger Brokers account to pay for the stocks.
Scenario 2: Out of the money.
If the stock price of Alibaba remains above HKD 140 for the duration until the expiry date, I will not be required to buy 500 shares of the Alibaba stock at HKD 140., and can just let the options expire. I get to keep the initial profit of HKD 1,290 (before commission and fees).
By the way, I was told the commission and fees is not really low.
Scenario 3: Alternatively, if I feel that the stock price which is dropping is reaching the strike price of my put options, I can choose to close out my position before the expiry date.
Go to “Position:, select the Put option, right click and choose “Close”, and buy back the number of lots. I can see the amount I need to pay. This amount may or may be lower than the premium I received earlier (I reckon it is dependent on the number of days left to expiry, current stock price then, volume and implied volatility, etc).
As mentioned earlier, if you are like me just starting out with selling options. Take it one step at a time, and not sell more than you can stomach (in the scenario of In the Money). It is easy to get carried away since no upfront investment cash is required and we get premium upfront.
This strategy is also not an entirely passive one. One has to monitor the stock price.
If you have the time, the below book has a good section on selling put options (page 197 onwards).
Ultimately, options can provide leverage. This means an option buyer can pay a relatively small premium for market exposure in relation to the contract value (usually 100 shares of the underlying stock). An investor can see large percentage gains from comparatively small, favorable percentage moves in the underlying product.
Leverage also has downside implications. If the underlying stock price does not rise or fall as anticipated during the lifetime of the option, leverage could magnify the investment’s percentage loss.
Oh yes, one more point, market corrections are like an annual thingy.
“On average, there’s been a market correction every year since 1900. When I first heard this, I was floored. Just think about it: if you’re 50 years old today and have a life expectancy of 85, you can expect to live through another 35 corrections. To put it another way, you’ll experience the same number of corrections as birthdays.
Why does this matter? Because it shows you that corrections are just a routine part of owning stocks. Instead of living in fear of corrections, accept them as regular occurrences. Historically, the average correction has sent the market down 13.5% and lasted 54 days — less than two months.” Tony Robbins (Opinion: Tony Robbins on stock market corrections: Get used to them- read here)
Note: If you intend to sell covered call options using Tiger Brokers, please remember to contact Tiger Brokers and inform them to activate the covered call feature in your trading account, so that no margin capital is required. Otherwise you may face the issues as per the posts below.
You might be interested in the below post too:
Implementation of CPF SA Shielding Hack using FSMOne.com (read here)
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