Mark: Damian, appreciate you being here today and thanks for joining us.
Damian: My pleasure, Mark.
Mark: Damian, I think many of our viewers may have a perception that options are complex investment strategies that can carry risk and while all strategies aren’t risk free, how can this risk be managed?
Damian: Well, there are very few investments out there that are zero risk and option writing, if done right, can really reduce or optimize the amount of risk for a typical retail investor. And there are—really, there’s a couple basic but very important things that you can do to reduce a risk when it comes to option writing. The first thing is really stay within the third bucket and the third bucket is just(?) stick to writing cover option, so, write cover calls and write cash cover or cash secure puts. That way, you do not use leverage, right? You write cover calls, you own the shares. So, if the stock rally and you get the shares call away, you get the shares, basically, sold at level that you’re comfortable with anyway.
And if you write cash secure puts, then you have the cash or the financial capacity to take delivery of the shares if needed if the puts are assigned to you. By doing that, you really remove the risk from leverage from the equation. And with option, that’s key.
The next thing you can do to really reduce the risk associated with option writing is by making sure that you do not write option on stocks you’re not comfortable with, i.e., do not write options just to collect income on stocks with (inaudible), that you might not want to take delivery, that you might not want to own.
Mark: How can pre-retirees and retirees, in particular, those early in the retirement phase, start including options writing in their portfolio without it being cost prohibitive?
Damian: Well, Mark, I think you really hit the key points when it comes to the traditional hurdle for option writing. Traditionally, option writing is quite labour intensive. You need to really do a lot of trading; you need to have a good infrastructure and a good team in order to do stock selection well. And then on top of that, risk management infrastructure is critical. And for investors, for high net worth and institutional investors, those are hurdles that could be overcome. But for the non-high net worth and the non-institutional, in order to overcome those hurdles sometimes what you need to do is, quite frankly, look for a team of experienced option traders and stock pickers. When you have an experienced team of expert, what you can do is rely on the economies of scale of that team of expert, where, because they manage a larger asset base, they can afford to build the infrastructure, the risk management infrastructure, the trading infrastructure, have a proper team of stock pickers, in order to have all of that before you can even start to win the option writing.
And this is an area where I’m really proud to say that at Dynamic we have done that; we have put together a team with sufficient economies of scale, with the right infrastructure for risk management, for trading, for stock selection, and over the past eight years, since 2013, since we launched the Dynamic Premium Yield Fund, a fund where we focus on using option to generate income while controlling for downside risk.
Writing cash secure puts is equivalent to waiting for an opportunity to buy lower, and in the meantime, you get paid an income stream. And over time, when you write enough of those puts, you are going to build up the long equity position. Once you own the share, then you can look for opportunity to write cover calls in order to generate even more income.
Mark: Damian, this has been an insightful conversation and a great way to unwrap some of the complexities of option-writing strategies, but also how they fit within the retirement income planning process. Appreciate your time and insights. Thanks for being here.
Damian: It’s my pleasure, Mark. Thanks for having me.
