Saturday, May 3, 2008

Diagonal spread, long term growth plus monthly cash flow

A Diagonal spread is an excellent way to pull out monthly income from the stock market while also making long term profit. It is a more leveraged strategy then simple doing a covered call and produces greater income then Dividends.

A diagonal spread has to do with leaps. What are leaps? A leap, like an option, will give you the right to buy a given stock at a given price on or before a given date.

The only difference is that a leap will give you more time for a stock to make its move. In fact some leaps are two years away. This can give you leverage in the long term perspective.

Let us look at how you can use a Diagonal spread using a leap. Stock XYZ is trading at $50. We believe stock XYZ will be trading considerable higher in 1 year. So we buy the $45 Leap (call) 2 years out for $14. We also do not think the stock will go up to $60 this month so we sell the $60 call for $1. This brings us an instant $1 profit. If the stock stays below $60 you get to keep your $1 and your long term Leap.

Of course it the stock goes to $60 or higher you have to buy it and sell it at $60. Because you own the leap however you can buy it at $45 and sell it at $60 and make $15.

Well say you took the trade. Every month you sold a call option but never got called out. By the end of the year the stock is at $70 and your leap is worth $37. You also sold $9 in calls that year. In total you made a 228% return on your money.

Compare that with a 60% you would have made if you bought the stock. A diagonal spread can be a great way to make continuous monthly income and long term growth for your portfolio. Of course you still need to have rules in set for managing risk and finding good stocks. But mastering this technique can be quite profitable.

For more information on trading in the stock market visit

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