LEAPS-Based Perpetual Income Strategy Spelled Out

450 blazing degrees Fahrenheit.

That's how high of a temperature the website recommended cranking my oven in order bake a moist chicken breast.

Moist chicken breast? Was that even possible? And by turning the oven into a crematorium?

Made no sense to me at all.

But what did we have to lose?

We'd been dutifully eating dried out chicken breasts - which we'd cooked at lower temperatures - for years.

(Well, not our 10 year old son - he said he hated chicken and had long since refused to eat it.)

So one night, I fired the oven up to 450 degrees, opened the gates to perdition, braved the hellish blast of hot air that greeted me, and placed the pan of four large plump chicken breasts inside as quickly as I could.

It felt more like I was feeding a kiln than an oven.

I was surprised I still had any arm hair left after I got the oven door closed again.

Those poor chickens.

Our poor dinner!

If our 10 year old hated chicken when it was merely dry, how would he respond to incinerated poultry?

But just 20 minutes later, the chicken breasts had exceeded an internal temperature of 165 degrees F, and I hauled them back out.

Then, after letting them cool for a couple of minutes, I cut into one.

It was like slicing butter.

And when I took a bite . . .

Holy $%#^!

It was the best, most moist chicken breast I'd ever eaten in my life.

Even better - our son now loves chicken.

While I was later stoked (no pun intended) by this baking breakthrough, at first it was a little depressing.

After all, I'd been spectacularly wrong about how to bake chicken my entire adult life.

But the more I thought about it, the more I realized that I was hardly alone.

No, I'm not saying everyone else has also been baking chicken incorrectly.

My point is that we humans are spectacularly wrong about stuff all the time.

From the unsinkable Titanic to the Dewey Defeats Truman headline to Hillary Clinton's 2016 unfired confetti cannons to the three previous financial crashes (energy, real estate, and internet) that 99% of the "experts" never saw coming, there's no other way to say it.

We are flat out wrong all the time.

And that's exactly why trading can be so damn maddening.

We're basically trying to predict the future.

More specifically, the future behavior of Mr. Market.

And when we do that, we're in way over our heads.

That's because Mr. Market is an amalgamation of the millions of active - and passive - participants in the stock market.

So when we trade or invest based on what we think a stock is going to do at some point in the future, what we're really doing is attempting to predict the aggregate behavior of millions of strangers - many of whom are also extremely irrational.

No wonder trading and investing is so hard!

What if it didn't have to be that way?

What if we could engineer an option trading strategy so that:

  • It doesn't matter where the underlying stock trades, whether we're in a bear market or bull market, and we never have to worry about trying to predict the future?
  • The trade requires very little maintenance, incurs very little risk, and still spins off a lot of income (real income, not just cash premium at the expense of capital losses somewhere else)?
  • The strategy is simple enough to understand but still contains enough moving parts that it's guaranteed to keep skittish investors and lazy traders from ever truly appreciating it?

Realistic Outsized Gains

Throughout the summer of 2016, I wandered down a brainstorming rabbit hole as I considered various ways to customize the LEAPS-based calendar spread strategy.

I knew the potential for what I call "realistic outsized gains" was there.

Such as these 41.84% gains I made on a series of KO calendar spreads in a period just shy of a year.

Or this other calendar spread trade on KO where I clocked 15.93% returns in just 26 days (and potentially could have gained an insane 50.99% over the same holding period had I been more aggressive).

(LEAPS are basically regular options that don't expire for a long time - you can learn more about them here.)

But the degree to which these trades are going to be really successful - and in the shortest amount of time - really does depend on the degree to which you're "right" about what the underlying stock is going to do next.


So basically, the idea I came up with is to buy deep in the money long call LEAPS and deep in the money long put LEAPS and go deep enough that you pay as little time value as possible.

(We'll have to recoup the time value at some point, so we want it to be as small as possible.)

On an intrinsic value basis, as long as the stock trades within that range we set up - with the long call LEAPS at the lower end and the long put LEAPS at the upper end - intrinsic value remains constant no matter where the stock itself trades.

(And if it happens to trade outside that range, it actually increases).

That means the long portion can't lose value other than whatever time or extrinsic value we pay when first setting up the trade.

And then we sell near dated calls and puts against the LEAPS for a lot of income.

So the intrinsic value of the long LEAPS holds steady while we're free to repeatedly generate income from our near dated short options.

(Don't worry if this doesn't make perfect sense right now - when we look at some real trades, you'll see how all the moving parts work together. It'll be fun, I promise!)

But, if you're thinking ahead at all - or if you have experience trading calendar spreads yourself - you might anticipate a certain problem with the strategy.

The Drawback IS the Advantage

So here's the deal . . .

Some portion of the short options WILL definitely get into trouble. Frequently, repeatedly, over and over.

That would seem to be a drawback to the uninitiated.

It's one thing to say that a fluctuating share price is no big deal to our overall long LEAPS position because if the long calls lose value (from a declining stock), the long puts will gain value and everything balances out.

And vice versa.

But if we sell near dated calls and puts against the LEAPS, then it's only a matter of time before one set of those short options - calls or puts - will find themselves in the money and underwater.

But inside The Leveraged Investing Club, we have an extremely effective and streamlined and proven short put trade repair process.

With our Sleep at Night put selling strategy, if a trade goes against us, we don't abandon it.

We never leave our wounded behind on the battlefield

We rescue and repair those short puts that trade in the money on us - even when they trade deep in the money.

(Check out Heads We Win, Tails Mr. Market Loses to see exactly why it's so rare that we ever book a loss at the end of our campaigns.)

But what's even better here is that these same short put trade repair tricks, techniques, and principles that we've been using and perfecting for years, can totally be applied to the LEAPS Perpetual Income Strategy as well.

(I'm in the process of putting together another post that walks you through an actual trade - so you can not only get a better feel for the construction of the trade, but also so you can see how we deal with some of those short portions of the trade that are inevitably going to misbehave on us.)

And while I've said that this might become my new favorite strategy, I also want to be completely transparent and honest.

It won't be for everybody - I'll also do a complete (and unbiased) pro and con run-through as well in another separate article.

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Warren Buffett Zero Cost Basis Portfolio Current Equity Holdings:

KO - 125 shares
KMI - 100 shares
BP - 100 shares
MCD - 30 shares
JNJ - 25 shares
GIS - 25 shares
PAYX - 25 shares

Open Market Purchase Price: $20,071.83

Less Booked Option Income: $16,341.71

Tot. Discount: 81.42%
Adj. Div. Yield: 19.59%