IRA accounts do not generally support margin trading or short or naked options positions, though some brokerages offer limited margin accounts which allow more freedom when trading than traditional cash accounts.
This feature of your Margin Account enables you to buy and sell securities quickly without long settlement times, as well as trade options and implement hedging strategies such as short call vertical.
Covered call with stock
Options trading within an IRA requires certain special considerations. First and foremost, an IRA does not permit short stock, which involves borrowing shares that you do not own in violation of regulations prohibiting investors from using their IRA assets as collateral for loans.
Covered call selling can still generate some income for traders in their IRA accounts, although any premiums they collect won’t be tax-deferred until they withdraw shares from their portfolios. Many traders use this strategy as a hedge against declining stock positions – it’s important, though, to understand all risks before engaging in this trade.
At taxable brokerage accounts, losses from investment losses can be written off, while in an IRA this option isn’t available. Because of this limitation, many traders avoid risky options trades that might incur losses in an IRA and potentially wipe out their annual contribution limits; to mitigate such risks they can employ what’s known as “poor man’s covered call.”
Short call with LEAPS
Trading Short: An Effective Strategy
An IRA can also trade options spreads, which are advanced strategies combining two similar option contracts (call or put), each with different strikes or expirations dates and strike prices, into one position with potential profits or losses depending on its structure and position. A spread may yield either credits or debits depending on its design and implementation.
LEAPS options have longer dates than traditional equity options but behave in exactly the same way, making them eligible to be included in an IRA account.
IRA accounts do not typically permit trading on margin, giving investors less leverage than nonretirement brokerage accounts. Some brokers do offer limited margin trading in some cases for IRA accounts to enable investors to use unsettled trading proceeds for buy/sell securities transactions.
Short call vertical
IRA investors may trade spreads, but not short stock or naked short calls. Qualified traders whose accounts have been approved for options trading may trade spreads with limited margin, without needing any borrowed money for this strategy based on the difference between its strike prices and initial credit/debit collected upon trade entry. These defined-risk strategies provide potential profits/losses depending on differences between strike prices of spreads traded with limited margin and initial credits/debits collected upon entry of trades.
A trader can make a profit if the short leg expires out-of-the-money (OTM), both options expire worthless, and credit collected upfront is returned in full to them. There’s no open-ended risk with this strategy as there is no direct investment position held against an asset; unlike traditional shorting, which involves borrowing an unowned stock to sell back later to close it out; unlike this strategy which requires active management to keep risk and commission costs under control, so new investors should begin with smaller positions until expanding to increase position sizes as needed before expanding to larger positions based on experience gained in traditional shorting.
Inverse ETFs
Inverse ETFs have become a popular investment choice among savvy traders. These exchange-traded funds follow in the opposite direction of a benchmark index every day, shorting its underlying asset using derivatives such as futures contracts to do so. While not suitable for everyone, these complex instruments can be an invaluable asset when used by traders who believe the market needs correction.
To short stocks, traders need access to a special type of brokerage account known as a margin account. This requires going through an application and approval process similar to taking out a loan and involves borrowing shares that you sell at higher prices in hopes of buying back at reduced costs later – creating an extremely risky trading position and possibly leading to good faith violations.
IRAs typically allow limited margin trading, which does not permit short selling securities or opening naked options positions like you would find in a taxable margin account. Furthermore, you must avoid trading unsettled funds within an IRA as this can constitute an act of good faith violation and therefore invalidate it altogether.