Understanding the poor man’s covered call

How to set up a poor man’s covered call

Selecting the long call (stock replacement)

• Expiration. Choose a long-dated option (6 to 12 months out) to minimize the impact of time decay.
• Strike price. Pick a deep in-the-money option (with a delta of approximately 0.70–0.80) to closely mimic stock ownership.
• Implied volatility (IV). Lower IV is preferable when purchasing the long call, as it reduces the option’s cost.

Selecting the short call (income generation)

• Expiration. Choose a short-term option (2 to 6 weeks out) to maximize time decay benefits.
• Strike price. Select a slightly out-of-the-money (OTM) or at-the-money (ATM) strike to generate a higher premium while reducing the risk of early assignment.
• Rolling considerations. If the short call moves in-the-money, traders can roll the position (close the current short call and sell another at a later expiration) to continue collecting premium.

Comparing the poor man’s covered call to a cash-secured put

Another strategy that traders use to generate income is the cash-secured put. While both strategies share some similarities, they differ in structure, capital requirements, and risk.

The key distinction is that a cash-secured put obligates the trader to buy the stock if assigned, while the poor man’s covered call never results in stock ownership. Both strategies work best in moderately bullish market conditions.

Understanding the option greeks: Risk factors in each strategy

To fully understand the poor man’s covered call, covered call, and cash-secured put, it is important to analyze how option greeks influence their price behavior and risk.

Poor man’s covered call

• Delta. The deep in-the-money long call has a delta of 0.70–0.80, meaning it moves similarly to stock but with slightly reduced sensitivity. The short call offsets some of this exposure.
• Theta (time decay). The short call benefits from time decay, while the long call loses value more slowly due to its longer expiration.
• Vega (implied volatility sensitivity). The long call gains value if implied volatility (IV) increases, while the short call benefits when IV decreases.
• Gamma. Low gamma, meaning delta changes gradually rather than rapidly.

Covered call

• Delta. Since this strategy involves owning the stock, delta is 1.00 before factoring in the short call’s effect.
• Theta. The short call benefits from time decay, while the stock itself is not affected.
• Vega. Less exposure to volatility than the poor man’s covered call, since stock ownership carries no vega risk.
• Gamma. No gamma risk since stock ownership follows a linear price movement.

Cash-secured put

• Delta. A short put has positive delta (profits when stock rises) but less than 1.00, meaning gains are smaller than outright stock ownership.
• Theta. Time decay works in favor of the short put, as the premium erodes over time.
• Vega. The short put has negative vega, meaning it profits when IV decreases.
• Gamma. Generally low, unless the stock moves sharply downward.

When to use the poor man’s covered call

The poor man’s covered call is a valuable alternative for traders who want the benefits of a covered call but with lower capital requirements. Compared to a cash-secured put, it offers similar bullish exposure but does not carry the obligation to buy the stock.

Key considerations before using this strategy:

• Implied volatility (IV). Since the long call is sensitive to IV, it is best to enter the trade when IV is low, reducing the cost of the option.
• Option greeks. Understanding how delta, theta, vega, and gamma affect the trade can help manage risk and optimize returns.
• Rolling the short call. If the short call moves in-the-money, traders may need to roll the position to a later expiration to continue collecting premium while managing assignment risk.

For traders looking to generate income in a capital-efficient way, the poor man’s covered call can be a powerful tool, especially in the right market conditions.