Three Ways To Generate Retirement Income Using Options (2024)

Income is the lifeblood of retirees who no longer earn a paycheck. But there's a way to generate more income on a nest egg: stock options.

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Finding new sources of income is especially important with inflation surging, interest rates still low despite rate hikes from the Federal Reserve, and stocks hitting a rocky patch. Three conservative income-producing stock options strategies work for retirement, says Randy Frederick, managing director of trading and derivatives at Charles Schwab. These are "not high risk and not about speculation," he said.

Stock Options In Retirement: Consider Covered Calls

The common covered call options strategy lets you generate income and capture some upside in a stock. First, the basics. Calls give buyers the right to buy a stock at a set price and time. Covered calls refers to selling calls on stocks you own. Each option contract equals 100 shares.

Here's how covered calls work. Say you own 100 shares of Apple (AAPL) at $155 but don't think the stock will advance much in the short term due to Fed rate hikes or other headwinds. You can sell an Apple covered call that expires in a month at a strike price of 165 (the price you agree to sell at) for $3.20.

How Covered Calls Work For Retirement

You'll get to immediately pocket the $320 premium from selling the option (100 shares x $3.20). "It's yours no matter what," says Steven Sears, president and chief operating officer at Options Solutions, adding that the premium is akin to collecting rent. You'll also profit from any price appreciation up to the $165 strike price.

"A covered call gives you the ability to make money on a stock position when the stock is not going anywhere," said Frederick. He says this strategy is doable in an IRA or taxable account.

The downside? You can potentially leave money on the table. How? Say Apple shares turn more bullish than you forecast. And the stock rallies above 165 to, say, 175. You'll miss out on that 10 per share upside as you'd be forced to sell your 100 shares at the 165 strike price.

Think About Cash-Secured Equity Puts

This cash-secured equity puts options income strategy can be used when you like a stock long term and want to buy it. But you feel more comfortable purchasing it at a lower price.

Let's say Apple is on your buy list and trades at 155. But you fear a pullback. And you'd rather buy 100 shares at 150. You can execute a cash-secured equity put (CSEP) strategy that provides income and a chance to buy shares at a discount. Keep in mind that since you don't yet own the stock, you'll need to have the money to buy the stock in your brokerage account.

Putting Puts To Work

Here's how it works. When you sell a put option, you have an obligation to buy a stock at a certain price and time. So, you could sell an Apple 150 put at $3.71 that expires in a month. You'll immediately generate $371 of income on the option sale ($3.71 x 100). And you'll also have a shot at buying 100 shares of the iPhone maker at the lower $150 strike price if it falls below that price at expiration.

Think of it as getting paid to enter a limit order, says Frederick, referring to people placing limit order trades that trigger buying only when a stock falls to a certain price level.

"This strategy is a perennial favorite for investors who have cash in their brokerage accounts that they want to earn a return on that's greater than what their money market pays or what's available in fixed income," Sears said.

The trade-off? If you really want the stock and it remains above the strike price when the option expires, you'll miss out on owning it. Another risk: If the stock suffers a large drop and dips below the strike price at expiration, you'll have to buy the stock at an above-market price. That's why Sears says you should never sell a put option on stocks you are not willing to buy.

Button-Up Your Collars With Stock Options

Collars are a hybrid options strategy that can earn income and provide downside protection. Collars can help you ride out short-term market volatility and stay invested for the long-term. It's a "hedging strategy" that combines a covered call (mentioned above) and a protective put (an options contract that entitles the investor to sell a stock at a strike price, even if shares drop below that level), says Frederick.

A big benefit is this insurance-type trade can be executed at a low cost. How so? The income you get from the sale of the covered call can be used to offset the cost of buying the put, Frederick says.

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