When 13 Cents Means "Winner Winner Chicken Dinner"

7/17/15

Financial Freedom Penny By Penny

Thirteen red cents... it was the closest I've ever come. Sometimes, I guess we just win by the “skin” of our teeth, like I did today.

A week ago, I wrote about how the market was tanking, and implied that conditions like that can end for you in one of four ways:

• You can lose a ton of money
• You can lose SOME money
• You can make a little money
• You can make a LOT of money

I generally choose one of the last two options, since it suits my goals for financial freedom at a young age. How about you?

That’s what I thought. No one likes to lose money. They want to gain wealth. And you stand a better chance of not losing money if you’re choosing the best stocks in the world, and keeping good investment habits, like position sizing stop losses, and having a sound pre-investment plan. 

But even then, sometimes things don’t go your way. In order to make sure you are making money long term instead of losing it hand over fist, you need to have a plan beforehand.

What I Did Last Month to Win

Here was my plan back in mid-June, which I outlined before:

• I thought that Cisco Inc would not be trading for less than $28 at market close on July 17, 2015
• I therefore agreed that if it was, I would buy 100 shares of Cisco for $28, even if the stock was trading below that price
• I got paid to make this agreement. This agreement is called a “put option”

Specifically, I got paid a net amount of $38.41 ($46 before commissions), or 1.3% of my total purchase obligation (I would need to buy 100 shares at $28, plus pay commissions), to simply agree to buy the stock at a price that made sense to me. So essentially, if I had to end up buying the stock, my cost basis on the stock would be $27.61. The stock could drop to that price before I was even losing money.

Keep in mind, the stock price at the time was $28.70., so it could drop by 3.8% before I would even begin to lose money. Sweet! That’s a built-in safety net.

Well, guess what? The price went WAY below $27.61. Let me explain the roller coaster ride to you.

I observed the stock one day at $26.96. If the price had remained at that range, I would be losing $.75 cents per share, or a total of $75. That’s what—a 95% loss on my original investment? SUPER SUCKY in my book. Agreed?

But that was early in the option contract. The prices rebounded… Greece was apparently saved by Europe, or something like that…. So guess what? The market rallied, until finally today, on Option Expiration day (the third Friday of every month), the price of CSCO was $28.13.

If the price had been below $28, my broker would have charged me $19.99 in commissions, and that would have eaten into my ultimate return, making it something like only .7% in 32 days. Not too shabby, but not the best.

So how does this translate to me making 15 times more money than you?

It’s simple compounding.

Compounding Is No Joke... It's Wealth Creation On Steroids

Let’s say we both had $5000 today and started investing. Let’s pretend I stuck with average market indexes only, and made 8% a year over the next forty years.

But you decided to branch out, learn a few more very simple, but elegant and advanced techniques to get you this extra 1.3% every couple of months, like I just did.

My $5000 becomes just $100,576 in forty years.

Your $5000 becomes $1,526,173.

Don’t discount the power of small numbers adding up over time!

You can scoff at my .7% or 1.3% per month. It doesn’t seem like much on its face. But the math says otherwise in the long term. And I am always beating the market (although I will admit, it has been quite hard during the last couple years, with the market basically doubling).

And you can think that this method I used sounded a bit too risky for you. Well, great news—there’s a method even safer than this, which will almost certainly guarantee you a higher return than I got here.

It’s called selling covered calls. I have a “juicy” little article explaining all about it right here.
 

Set up the ability with your broker to sell covered calls on safe, healthy companies that you own in your portfolio—some cheap companies you can easily do this with are Intel (INTC),  Cisco (CSCO), Coca-Cola (KO), and AT&T (T).  

The benefit of covered calls is that you not only get the premiums for selling the contracts (which is all you get for selling put options, like I did above), but you also earn dividends on the stock you own, as well as any price appreciation while you hold the stock, which you can sell at any time.

If you need a real-life example to follow along, since first writing this, I've opened a new trade on technology giant Intel, demonstrating how covered calls work in the real world.

If you have any questions on this, send me a message at thevillageidvestor@gmail.com, or comment below.

And don't forget to SHARE SHARE SHARE this article with anyone who could use it (THAT'S EVERYONE)

Live long and invest,

Jeremiah