How to Squeeze Income from Tesla

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Key Takeaways:

• You can generate meaningful income from non-dividend-paying stocks. 
• Writing covered calls on these names can produce more income than double-dipping on a dividend stock. 
• But not all call options are created equally. 

Earlier this month, we explained how to double-dip for income by reinvesting dividends and writing covered calls against dividend-paying stocks. 

While that’s a sound, sometimes lucrative strategy, it’s nothing compared to the success you can have writing covered calls against your positions in decidedly more volatile stocks such as TSLA. 

For a review on the basics of covered call writing, see this Juice from last month – “Sometimes Money Does Grow on Trees.” 

Implied Volatility 

IV. Implied volatility. One of the most important elements of covered call writing. 

Sounds complicated, but it’s not. 

Implied volatility (IV) is just a forward-looking assessment of the market’s expectation of how much a stock’s price will move. A higher IV means investors anticipate considerable movement in a stock. A lower IV indicates the market thinks a stock will remain in or around its current range. 

And you don’t need to calculate it yourself… 

Tesla As an Example 

Our partner Barchart provides useful IV statistics. 

Source: Barchart

That’s the data on TSLA as of Friday’s close. 

Note TSLA’s IV of 76%, which is the average IV of the nearest monthly options contract.

Generally, the higher the IV, the more expensive the option premium. This is good if you’re selling covered calls. Because when you sell a covered call, you collect and keep the option premium no matter what happens with the underlying stock. 

As the TSLA November 18, 2022, options chain below shows, IV increases the closer the strike price of the call option gets to the stock’s current market price. The more in-the-money the call (the green shading in the table), the higher the IV. The more out-of-the-money, the lower the IV. 

Tesla reports earnings on October 19 – this Wednesday. IV tends to be higher around earnings, particularly ahead of reports where investors expect significant price movement on the results. 

This dynamic can benefit the call seller, but it often burns the call buyer. If IV tanks shortly after earnings (and it usually does), it will likely take the value of the options premium with it, even if the stock moves higher. While this can also present a risk to the covered call writer – the risk of having your underlying shares called away – we’ll merely note that risk today and expand on it in a future installment. 

For illustration purposes, let’s make the following hypothetical assumptions re: our sentiment on TSLA:

• We’re long-term bullish, so we want to hold the stock. 
• We want to take advantage of the high IV and resulting expensive premium by writing a covered call. 
• We want to generate income to make up for TSLA’s recent downside. 
• We expect TSLA stock to drop, stagnate, or rise modestly on earnings. We don’t expect it to take off. 

In this case, with TSLA trading at $204.99 as of Friday’s close, we could sell the Nov 18, 2022, $210 call and collect a premium of around $16.50 a share, or $1,650 (because each option is for 100 shares). And you keep that $1,650, no matter what happens to TSLA stock. 

If TSLA doesn’t surpass $210 on or before options expiration date, you keep your shares and the call option premium. 

If TSLA rallies on earnings and ends up trading higher than $210 on or before options expiration date, things get interesting for the covered call writer, particularly if you don’t want to give up your TSLA shares. Because this is when you’re likely to have to sell your shares. 

The Bottom Line: This hypothetical TSLA play helps illustrate how to use implied volatility to maximize the income you generate by writing covered calls. We kept things simple to make IV easy to understand. 

However, things aren’t so simple in the real world. There’s inherent risk in covered call writing. The risk of having your shares called away. 

Because Tesla releases earnings Wednesday, we can pick up where we left off after the company’s report. We’ll see what the stock did and how its movement impacted the IV and premium of its call options. We’ll look at it from the perspective of the hypothetical covered call writer we created in today’s Juice. 

We’ll detail different scenarios based on what TSLA actually does post-earnings to develop a better understanding of IV and the risk of losing your shares when you commit to writing a covered call. 

For now, any way you slice it, that $1,650 you could have collected by writing a covered call ahead of TSLA’s earnings against your position in TSLA stock is yours to keep, no matter what happens on Wednesday.

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