No. of Recommendations: 14
The time value still offsets the stock price gains -- so what is the benefit? Freeing up money to buy something else?
Yes, it would just be freeing up cash.
You're locking in profit and taking money off the table.
That money can be invested in something else now, or held for a good upcoming opportunity, or (my fave) simply spending the money.
Also, what is the benefit of a high-ish stock price?
This is in the context of rolling an option up, or out, or switching from stock to calls, but not increasing the number of shares you are long.
The time value in an option is highest when the stock price and the strike price are the same.
The time value is higher and lower at higher and lower prices, sort of a bell curve.
So, for any GIVEN in-the-money strike price, the higher the stock price is at the moment (the farther above the strike it is) the lower the time value cost to buy that option.
[the in-the-money cost is higher, but you're selling something else at a higher level too, so that part is a wash]
Hence, the lower the breakeven price and the lower implied interest rate for the "borrowed" money.
If you're going to be buying a call at any specific strike, the time value in that particular call is cheapest when the stock price is way above it.
Since this is true of each strike price, it's true of all of them: no matter which strike you're buying, you want to be buying it (specifically rolling something into it) when the stock price is as high as possible.
So, on days that you are a net buyer of time value (rolling options out to a later date, for example), you want the stock price to be high.
This is obviously not the same logic when you are simply adding to a position. The higher stock price dominates the discussion and you're just getting a poor entry price.
My own investment and income strategy could be summarized as follows:
Buy a lot of stock and/or calls when Berkshire is really cheap.
When it's more expensive and I need some money, sell some to raise cash for expenditures.
When it's more expensive and I don't need money, roll some stock or deep-in-the-money-calls to higher strikes while they're cheap, freeing up cash and building a cash pile.
Repeat.
Over time the number of shares I'm long doesn't really change. I'm long about the same number of shares as I was in 2002. I just pump some money out of the portfolio as the strikes I'm using gradually ratchet higher, though they're all "in the money" by around the same percentage. This fun will all end when I no longer find calls that are available at implied interest rates that seem attractive relative to my expectations for the stock price trajectory. Then it will be back to simple stock again. But while it lasts, it's great.
One interesting thought is that, to the extent that I'm making a living from the option market rather than actually being an owner of Berkshire Hathaway the company, I am playing in the zero-sum part of the markets: it's just a side bet on how Berkshire stock is doing. So for every dollar I've been making this way, someone else is losing it.
Jim
