The Poor Mans Covered Call involves the buying of a LEAP call options and the frequent sale of short dated out of the money calls. Similar to a traditional covered call, the goal is income or cash flow. This also is a neutral to bullish strategy. Here though are some of the pitfalls of the Poor Mans Covered Call
Absence of Liquidity
Usually the spreads on long dated options can be really large. This is really noticeable in stocks with low liquidity. When the spread is too large, it just doesn’t make sense to try and take on the trade. The alternative is to move down closer to the share price. This though will reduce the delta which means the long call is not really a worthy stock substitution. Traditional covered all traders do not need to worry about these pitfalls.
When one buys theta, the trade is against the clock. Obviously one does not have to worry about the “clock” when the trade goes in the right direction. However, it is when things go pear shaped when one has to think about selling or rolling the long dated call option. All options eventually end up worthless no matter how many years to expiration they may be. Again traditional stock holders do not have to worry about the time element here.
No Dividends In Poor Mans Covered Calls
When holding a long call for 2 years on end for example, one can’t collect dividend payments from the company. Dividend payments can reduce one’s cost basis if invested back into buying more shares. So one top of the time decay that eats into the option value every day, one also can’t collect dividends.
The only advantages which I can see from the Poor Mans Covered Call strategy are less capital requirements and the possibility of losing less if the share price falls off a cliff. The ends don’t justify the means here though. We recommend the traditional strategy. Low priced stocks which are undervalued, liquid and pay a dividend are the best stocks for traders to start using this strategy.