From: Subject: WSJ.com Date: Tue, 13 Aug 2002 17:56:27 -0500 MIME-Version: 1.0 Content-Type: multipart/related; boundary="----=_NextPart_000_00CF_01C242F2.BEFD5EF0"; type="text/html" X-MimeOLE: Produced By Microsoft MimeOLE V5.00.2919.6600 This is a multi-part message in MIME format. ------=_NextPart_000_00CF_01C242F2.BEFD5EF0 Content-Type: text/html; charset="iso-8859-1" Content-Transfer-Encoding: quoted-printable Content-Location: mhtml:http://www.kellogg.nwu.edu/faculty/polk/d41/articles/Endorsing%20Options%20(in%20a%20guarded%20way).mht WSJ.com
3D[WSJ.com]
January 15,=20 2002

Getting=20 Going

Some Stock-Option Strategies
Win a Guarded = Endorsement

By JONATHAN CLEMENTS =
Staff Reporter of THE WALL=20 STREET JOURNAL

Let's start with a concession: Maybe options aren't totally devoid of = merit.

I don't like exchange-traded stock options. They are complicated. = They are=20 often used for mindless speculation. And the odds are unattractive. For = every=20 winner, there is a loser. In fact, after trading costs, investors = collectively=20 end up out of pocket.

Still, I did manage to find two options strategies that almost pass = muster.=20 Options come in two flavors: puts and calls. By buying a put, you = acquire the=20 right to sell stock at a fixed price. Similarly, by purchasing a call, = you=20 acquire the right to buy stock at a set price.

But these rights don't come cheap. You have to pay a premium to the = sellers=20 of these options. Indeed, many folks sell puts and calls as a way of = generating=20 extra investment income. But that strategy can backfire if the stock = involved=20 has a big move.

Sellers of call options may miss out on big gains by the underlying = shares,=20 while sellers of puts can be forced to pay a lofty price for a = now-battered=20 stock.

Sound confusing? To get a better handle on what is involved, consider = these=20 two strategies that may appeal to certain investors.

Easing out: Suppose you have 1,000 shares of Microsoft = that you=20 bought for a pittance. You know you ought to diversify, but you are = reluctant to=20 sell because of the resulting tax bill.

Options could ease the pain of selling. The idea is to write call = options=20 against your Microsoft position. Let's say you sold July calls, with a = $75=20 strike price, somewhat above the current $68.47 share price. By writing = the=20 calls, you agree to sell your Microsoft shares for $75 any time between = now and=20 the options' expiration date. In return, you will receive $4,200 in = option=20 premiums, which will help to offset the tax bill, should your stock get = called=20 away.

"The problem is the downside," says Eric Seff, a financial planner in = Mamaroneck, N.Y. What if your Microsoft shares plunge? Mr. Seff says the = option=20 premiums you collected probably wouldn't compensate for your losses.

To guard against a big decline in Microsoft's shares, you could = combine the=20 sale of call options with the purchase of Microsoft puts.

That would give you downside protection. But the premium you pay for = the puts=20 will likely wipe out the income you earned by selling the calls.

What to do? Maybe you should forget the puts and instead sell calls = with a=20 strike price very close to today's share price. For instance, you could = sell=20 Microsoft calls with a strike price of $70, just above the current stock = price.=20 That way, you will earn some extra income, while being almost certain = that the=20 options you sold will be exercised and thus your Microsoft stock will = get called=20 away.

Or maybe you should just dump the shares. "If you know you should get = out of=20 the stock, then get out of the stock and forget the options," advises=20 Minneapolis financial planner Ross Levin. "The taxes may hurt. But = that's the=20 price of good investment choices you made in the past."

Looking Down: What if a bear market hits when you are retired? = If you=20 are already a few years into retirement, you are probably in fine shape, = thanks=20 to the cushion created by earlier investment gains. But if you have just = retired, you could find yourself in deep trouble, as your portfolio is = rapidly=20 depleted through a combination of tumbling stock prices and your own=20 withdrawals.

To protect yourself during the critical first few years of = retirement, you=20 might buy put options, says Moshe Milevsky, a finance professor at York=20 University in Toronto and author of "The Probability of Fortune."

Suppose you bought puts on the Standard & Poor's 500-stock index = that=20 expire in December and that will limit your losses during the next year = to 8%.=20 This insurance will currently cost you about 5% of your stock = portfolio's=20 value.

Sound like a heap of change? To pay for this downside protection, you = could=20 sell call options. But those calls will limit your potential gain. To = earn=20 enough to pay for the puts, you would probably have to write calls that = cap your=20 stock-market earnings during the next year at 8%.

That would be a big mistake if your first year of retirement turns = out to be=20 a gangbuster year for stocks. "If you are worried about the upside, sell = a call=20 at a higher strike price and finance part of the put out of your own = pocket,"=20 Prof. Milevsky suggests.

Because these calls with a higher strike price won't generate as big = a=20 premium, protecting against a one-year market decline of greater than 8% = might=20 cost you 3% or 4% of your stock portfolio's value. For antsy investors, = that=20 might be money well spent. But I would rather keep the cash and take my=20 chances.

Write to Jonathan Clements at jonathan.clements@wsj.com1

URL for this=20 Article:
http://interactive.wsj.com/archive/retrieve.cgi?id=3DSB10= 11047986296213360.djm

Hyperlinks in this Article:
(1)=20 mailto:jonathan.clements@wsj.com

Copyright =A9 2002 Dow Jones & = Company, Inc. All=20 Rights Reserved.

Printing, distribution, and use of this material is governed by your=20 Subscription Agreement and copyright laws.=20

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