Take Back Control of Your Retirement With These Strategies

Trading call and put options in an eligible retirement account can add alternative money-making facets to your retirement plans

Jun 20, 2017 at 11:00 AM
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    Legislators have already voted to roll back a tax exemption for state-run individual retirement accounts (IRAs), which could hamper the ability of small businesses to provide workplace retirement plans for employees. Additionally, there's lingering speculation that Congress could fund the Trump administration's proposed personal and corporate tax breaks by rescinding the tax-exempt status of 401(k) contributions, which could put your savings at risk.

    With the often-unpredictable day-to-day swings in the stock market, it's understandable to feel like you're not 100% in control of your retirement savings. And now, with lawmakers debating the merits of your 401(k) tax incentives, it's almost as though you've been relegated to a sideline player in planning your own future.

    But we've got one simple way to take back control and start getting proactive with your retirement fund: Options. By using two very basic options trading strategies -- call buying and put buying -- you can take control of your post-employment destiny, and use the power of leverage to start padding your nest egg.

    Below, we'll review the basics of both methods, and explain your options for continuing to build toward a confident future.

    Buy Call Options to Bet on Long-Term Gains

    Buying a call option is tantamount to gaining control of 100 shares of the underlying stock, but for a fraction of the share price. Essentially, a call option guarantees the buyer the right (but not the obligation) to buy 100 shares of the underlying stock at a predetermined price (known as the "strike price"), should the shares be trading at or above that price by the time the option expires. That said, most options traders never even touch the underlying shares; instead, they simply sell to close their options contracts after they've appreciated in value.

    Call options are available on a huge number of stocks and exchange-traded products, with the list of optionable assets likely to include pretty much all of the big names and popular sectors represented among your retirement investments. Options are listed at a variety of strike prices and expiration dates for each security, allowing you to tailor your call option trade to your specific forecast for the duration and magnitude of the expected uptrend in the underlying shares.

    The advantage to augmenting your retirement strategy with call options is primarily one of leverage. Simply put, you stand to gain many times more than your original investment, with a profit potential far greater than that of an equivalent stock trade. And because option contracts are priced at a fraction of the expense of purchasing the shares outright, you're risking fewer dollars with each trade (and keeping more of your investing capital available for other pursuits).

    What's more, when you buy a call option, your initial investment doubles as your maximum potential loss. Even if the share price should crater all the way to zero, the most you can lose is the premium you paid upfront to buy the contract(s).

    Depending upon your risk appetite and your proximity to retirement age, the way you trade call options in your retirement account may vary. Those with a more aggressive mindset might choose to use call options in a speculative manner -- namely, buying short- or intermediate-term calls to bet on big rallies in stocks that appear primed for upside, but that you might not want to commit to holding over the longer haul.

    Those who are taking a more conservative approach with their retirement savings might prefer a stock-replacement strategy. This method involves the purchase of long-term call options in lieu of buying shares, as a means of participating in a stock's uptrend without committing the same amount of capital as a stock trade would require (and with a lower degree of susceptibility to time decay, relative to shorter-term options trades).

    The stock-replacement strategy is particularly appealing during times of heightened uncertainty in the equities market, as it offers investors a way to take part in stock gains without placing too many dollars at risk. And with options available up to two or three years out, this type of options trade is one that can be left to develop over time, without requiring intense, active management. That said, open positions can be "rolled out" to later expirations if the underlying security is not moving significantly in your direction.    

    And for every type of retirement saver, call options provide a low-cost method of adding diversity to your portfolio. Whether your goal is speculation or stock replacement, options allow you to quickly and simply add exposure to any area -- big-cap tech, healthcare, emerging markets, etc. -- where you feel your investment approach might be lacking.

    For those new to call options, it's worth noting that call buyers are not eligible for the same dividend payouts as traditional shareholders. This is a caveat worth keeping in mind as you consider which stocks might be better candidates for options trades than stock investments, and vice versa.

    2 Ways Put Options Can Protect Your Retirement

    As you may already be aware, most retirement accounts prohibit investment strategies that require a margin account. That means you can't sell stocks short -- a restriction that could leave your retirement account vulnerable to heavy losses during times of market turmoil.

    However, buying a put option allows you to profit from bearish price action in an individual stock, sector, or index. It's essentially the mirror image of a call option -- when you buy a put, you've gained the right (but not the obligation) to sell 100 shares of the underlying stock at the strike price, if it should fall below the strike prior to its expiration date. And just like a call option, you can sell to close a profitable put option position without ever touching the underlying stock.

    Also similar to calls, buying puts involves a greatly reduced upfront investment, and it also inherently limits your dollars at risk to the initial premium paid. By contrast, shorting a stock involves theoretically unlimited risk.

    With short-selling off the table for 401(k) and IRA investors, put options are an incredibly valuable tool, because you can add directional diversity to your investments. Buying a put option on an individual stock, a broader sector, or a wide-ranging index means that at least one of your retirement investments will actually benefit from the kind of negative price action that leaves most long-term savers reaching for the Rolaids. And you can do so without trying to wrap your head around the logistics of investing in a triple-leveraged inverse bearish ETF (which, incidentally, are among the worst vehicles to buy and hold).

    In addition to broadening your scope to include bearish plays, put options also allow you to hedge your long positions. If your portfolio includes significant bullish exposure to U.S.-based drugmakers, for example, you could purchase put options on a pharmaceutical ETF that includes those names among its top holdings. So while you won't necessarily cheer a potential decline in this sector, the protective put option will effectively limit your downside (and, depending on the exact structure of your hedge and the degree of the downside move, possibly even offset some of your paper losses).

    And as with calls, put options can be purchased over a wide span of time frames, allowing you to tailor each trade -- whether speculative or protective -- to the needs of your unique retirement portfolio.

    Ready to Get Started?

    If you're ready to get proactive with your retirement goals, supplementing your investments with strategically implemented calls and puts is a simple, yet sophisticated, way to raise your game. But before you get started, get educated!

    We have an extensive library of options education material to help answer all of your questions about calls, puts, and more. And to learn more about how options trading can raise your retirement-planning game, just drop us a line.

    A Word on Money Management

    We're not a broker -- but at Schaeffer's, we typically recommend that only a small portion (perhaps 10%) of your available capital be used for options trading. Options shouldn't be the primary focus; instead, they should be one asset among many in your portfolio (alongside stocks, bonds, and cash). This helps to insulate your investments from potential weakness in any one asset class, sector, or trade.

    This same rule naturally applies to retirement accounts, as well. Allocate only a modest portion of your savings to these strategies, relative to the size of your overall account.

    Finally, we encourage you to start a conversation with your broker or investment advisor to see how options trading fits into your overall retirement strategy.



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