Selling ASX 200 Call Options: Rolling Positions and Managing Risk

Dear Alex,

I wanted to take some time to share my recent experiences with trading ASX 200 call options and reflect on the strategies I used, along with the lessons I’ve learned. This should give you some insight into the mechanisms involved in selling call options and how I’ve managed risk during the process.

Over the past few months, I’ve been selling call options on the ASX 200, typically 1 to 2 months out. While the strategy initially showed promise, I got it wrong twice - once in October and again in November. As the ASX 200 continued to rise, my options showed losses on paper. However, instead of closing the trades at a loss, I decided to roll the options up and forward by another month. By December, all those options had expired, generating a profit of about $2,000.

To give you a clearer picture, let me walk you through the specific example:

Example of Selling ASX 200 Call Options and Rolling Forward:

October: I sold ASX 200 call options with a strike price of 8100. The ASX 200 kept rising, reaching as high as 8480.

November: To manage the risk, I rolled the 8100 call options up to 8200 and pushed the expiry forward to November. This adjustment allowed me to collect additional premium due to the extended time value.

December: I rolled the options again, this time up to 8300. By December’s expiry date, the ASX 200 had fallen below 8300, causing all those options to expire worthless. The continuous rolling and collection of premiums helped generate a net profit of about $2,000.

This process is much like a soccer match. If you’re behind by a goal at halftime, it doesn’t mean you’ve lost the game. You only lose if it’s full-time and you’re still behind. Similarly, in options trading, losses on paper are not realsed until expiry. The key is managing the position through rolling and adjusting.

Key Lesson:

When selling index options, if the market moves against you, you can roll the options higher by 50 to 100 points or more and extend the expiry by a month or few months. This gives you additional time value, which increases the premium you receive. The extra credit from rolling can compensate for any losses from the previous position. The goal is to keep riding the options toward expiry and let time decay work in your favour.

Why I Consider the ASX 200 Expensive:

A critical part of my strategy is determining when the ASX 200 is overvalued. One metric I rely on is the Price-to-Earnings (P/E) ratio.

The current P/E ratio for the ASX 200 is around 20 to 22.

The historic average P/E ratio for the ASX 200 is about 15 to 18.

When the P/E ratio exceeds 22, I consider the market expensive. At such levels, upside potential becomes limited, making it a good time to sell call options.

Historically, the ASX 200 has grown by an average of 7% per year. If the index rises by 20% in a single year, it’s likely that future upside will be limited. In these cases, I adjust my strategy by selling call options at strike prices 50 to 100 points above the current level. This provides a cushion against further market increases and allows me to collect premiums.

Example of a Rolling Strategy:

Let’s break down a hypothetical rolling strategy based on the ASX 200:

October: Sell 8100 call options for a premium of $2.00 per option (total credit).

November: The index rises above 8100. Roll the position to 8200 for an additional premium of $1.50.

December: The index rises further. Roll to 8300 for another premium of $1.25.

By December, the ASX 200 falls below 8300, and all options expire worthless. The total premium collected across the three months is $4.75 per option, generating a healthy profit despite the initial miscalculation.

Mechanisms of Call Option Selling:

When selling call options:

You receive a premium upfront.

Your risk is that the market rises above your strike price, potentially causing a loss if you don’t adjust the position.

By rolling the option to a higher strike price and further expiry date, you manage this risk by collecting more premiums and buying time.

Why This Works:

Selling options allows you to benefit from time decay (the natural erosion of an option’s value as expiry approaches). Additionally, by selling options at strike prices above the current market level, you create a margin of safety, ensuring that minor market movements don’t hurt your position.

Final Thoughts:

Think of options trading as a long game. Just like in soccer, you may be behind at some point, but the match isn’t over until full-time. Managing trades through rolling and adjusting allows you to recover from early setbacks and potentially end up with a profitable outcome.

Let me know if you’d like to discuss this further or if you have any questions. Happy to help you navigate this strategy!