Wondering whether or not the Wheel Strategy is worth it? Take a look at my YouTube video below detailing all of the Wheel Options Strategy pros and cons so that you can make an informed decision.
What is the Wheel Strategy?
The wheel strategy is an options trading strategy that takes advantage of positive drift in the market.
The wheel strategy begins when traders sell an out-of-the money put. If that put option ends up expiring in-the-money, you'd take assignment of that stock and then sell out-of-the-money call options against the stock. Traders will continue to sell call options against the stock until the call option becomes in the money, then the long stock / long shares will get called away from you, closing out the position.
To summarize:
- Sell an out of the money put
- If that position expires in-the-money, then you'll take assignment
- Sell out-of-the-money call options
- Continuously sell out of the money calls until the position is called away from you
What Are the Wheel Strategy Pros?
The first benefit of the wheel strategy is that it contains less risk that buying stock outright.
It is lower risk because you are selling an out of the money put option, so the stock would have to fall below the strike price (which is usually far below the current market price).
Then, you are further reducing your risk by selling out of the money call options to reduce your basis and collect more premium.
The second advantage of the wheel strategy is that it provides you with a win rate that is over 50%.
Having a relatively high win rate is very important if your goal is to become a successful and profitable trader.
Another advantage is that you can actually participate in the upside of the stock if you’re assigned the shares.
This works out extremely well if a stock is oversold and then begins to appreciate in value.
By being long the shares, traders will profit, dollar-for-dollar as the value of the stock increases.
The final major advantage of the wheel strategy is one that isn’t often mentioned: when you are long stock you’re not going to be adversely affected by the volatility expansion that is inherent in options during a large sell off.
As a result, if you sell a relatively far out of the money put option and it gets assigned to you, you’re not going to have to deal with the buying power reduction that is inherent during a large volatility expansion event because equities do not have a volatility component.
What Are the Wheel Strategy Cons?
The Wheel Strategy's Drawbacks:
- Capital Inefficiency: The wheel requires holding stock, which has a higher buying power reduction than options. This limits capital use compared to solely selling out-of-the-money puts.
- Lower Win Rate: While the wheel's win rate exceeds 50%, it pales in comparison to selling out-of-the-money puts, which can reach over 95% (including rolling).
- Capped Upside: Owning the stock caps your gains at the chosen call strike price. You miss out on the full upside potential.
- Reduced Buying Power: Holding stock consumes 2.5-3x more buying power than selling puts, further limiting capital efficiency.
- Bear Market Vulnerability: In a prolonged bear market, the wheel leads to significant losses due to holding stock (selling calls will only offset a fraction of the losses).
In contrast, selling puts allows you to:
- Roll Down: Decrease the strike price by $5-$10 for a cost of ~$2-$3, often recouped by extending the option's duration.
- Avoid Assignment: Rolling reduces the risk of being assigned stock that consumes buying power and adds losses.
- Limited downside: The option seller's risk is limited to the premium received.
Therefore, selling out-of-the-money puts can be a more capital-efficient and profitable strategy, especially in bear markets, compared to the wheel's capital-intensive and downside-exposed approach.
Should You Use the Wheel Strategy?
While I acknowledges the Wheel strategy's attractive win rate of 60% - 65% in bull markets, he cautions against its limitations:
- Capital inefficiency: Owning the underlying stock can strain capital allocation compared to pure options selling.
- Bear market vulnerability: Significant losses are likely in downturns, as selling call options won't fully offset declines.
I believe that, in general, it's better to sell roll options:
- By extending contracts and using the received premium, traders can significantly improve strike prices (e.g., lowering a put option by $5 - $10 for $2).
- The Wheel strategy lacks this flexibility, causing substantial P&L declines with each $1 drop in the underlying stock.
The best Options Trading Strategy:
- David Jaffee utilizes the Wheel strategically in bull markets but prefers selling options due to the downside risks.
- You can learn the best option trading strategy at BestStockStrategy.com.
Visit BestStockStrategy.com to learn optimal options trading strategies and claim $400 of free materials.
Frequently Asked Questions (Wheel Strategy)
What are some other resources about the Wheel Strategy?
This is a good article about the wheel strategy
What are the typical wheel strategy returns?
You can earn an extra ~7% a year by "running the wheel". However, remember that there is no free money and you may be sacrificing some upside potential on your long shares by running the wheel strategy if your short call strike is penetrated.
What are the best stocks for wheel strategy?
Usually the best stocks for the wheel are stable companies with solid brands where you can sell far OTM call options while also capitalizing from the price appreciation of the underlying stock.
Indices also work very well for the wheel strategy.
What is the option wheel strategy?
The options wheel strategy, also known as the “triple income strategy” is a method where a trader continuously sells cash-secured puts until assignment, at which point they start selling covered calls against the assigned shares.
How do you trade options wheel strategy?
The wheel strategy is a long-term strategy that allows investors to systematically obtain stock at a discount (using Cash Secured Puts) and, in the event of getting assigned, purchase the stock at the short put strike and start selling Covered Calls to generate additional income.
Is the wheel strategy profitable?
Yes, however it's also not very capital efficient and the covered call limits your upside potential profits.
What is the most profitable option strategy?
Selling out of the money put options is the most profitable option strategy.
What is the safest option strategy?
Selling out of the money put options is the safest option strategy (as long as you have enough buying power to take ownership of the stock).
Can you make millions trading options?
Yes, you can make millions trading options but it requires a lot of discipline and knowledge.
What is the biggest danger of using the wheel option trading strategy?
The biggest danger of the wheel strategy is that traders will lose money during a bear market.