DGI Adventure – 04/14/16 Covered Call Option Roll Out – WTF Am I Doing?

Loyal readers will remember that I am short the two gold mining stocks in my portfolio. I sold covered calls on my ABX and AUY shares in early January.

Since gold miners’ earnings are highly dependent on gold, their share prices are kind of like a leveraged exposure to the price of gold. Since an options contract represents 100 shares, it is itself a means to leverage price movements. So options contracts on gold mining stocks are like doubly leveraged bets on the price of gold, and I decided to go short in early January.

My timing wasn’t too good…

Gold has had a pretty good quarter. In fact the last time the price of gold did that well in a three month period, this was happening:

Oh well. Thou can’t time the market so thou shalt not try. Right?


I had an opportunity in February to just be wrong. I could have let the options expire, letting the shares get called away at the strike prices. Those strike prices are well below my cost basis, but when I initiated the position I said I was ready to accept that possibility. To quote myself from January:

I’m ready to accept the loss as tuition for a lesson well learned. But accepting a loss is one thing. I’m not just going to sell my shares to Mr. Market.

I will sell the [ABX] shares for $9.00/share if they get assigned by whoever bought this option contract. They probably won’t unless the price is well over $9.23 (strike price + premium paid), which represents a 16% gain from today’s closing price. Oh yeah… and the clock is ticking.

Why didn’t I “pay my tuition” and move on? I don’t really know. Part of my excuse was that it didn’t cost me anything to kick the proverbial can down the road. In fact, by rolling the positions out a bit, I picked up some more premium. Granted I had to go out two months to April, but why not? These are double leveraged positions remember. Big swings are kind of part of the pattern, and the share prices could go back down. 

So I guess the other part of my excuse was I kind of couldn’t believe that the rally was going to keep going up like that. At some point there would have to be a correction, right?


Well here we are, two months later, and both positions are even DEEPER in the money than they were in February. They’re starting to get so deep that there isn’t a lot of liquidity, and it takes a lot more cash (and further expiration dates) to roll them forward.

So what am I doing? Why can’t I just let these options expire and give up the shares?

I think it turns out I wasn’t ready to pay that high of a “tuition”. My cost basis on the AUY shares for example is $6.07, so my $2.50 strike represents a 59% loss. AUY Shares closed today at $3.81 (that’s a 4% drop in a single day by the way…) To get back out of the money, I need a 34% correction…

And what if I get that correction? A 34% drop is kind of a bummer for someone who owns 600 shares right? Well yeah, but that share value is just an imaginary number…until you sell.

Long ramble cut short: I’m kicking the can again…to October this time. The actual transactions today were as follows:

I bought 6 contracts (to close) of AUY160415C00002500 for $1.29908/share

I sold 6 contracts (to open) of AUY161021C00002500 for $1.33092/share

(Maybe you could tell by all the sig figs after the decimal point, but those prices are inclusive of commissions.)

The AUY roll out netted $19.10 in premium. I would like to point out that that is a $0.0319/share payout. The AUY dividend paid out today as well. It was $0.005/share.

Then I bought 1 contract (to close) of ABX160415C00009000 for $6.277/share.

My limit order to sell the ABX161021C00009000 contract didn’t execute. The share price pared losses at the end of the day so I’m optimistic I can get something tomorrow. I am however exposed to a $600+ loss at the moment, and that isn’t an imaginary number. It is real money, and I don’t like that.

I think the primary lesson I’ve learned from all of this is that if you’re going to use covered call options to generate income, but you really don’t want to lose any money, it’s probably not a good strategy for investments that are catastrophically under water.

In hindsight that’s a pretty obvious lesson, that I already understood academically. Now I’ve really experienced it though, right?


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