When you sell a cash-secured put and collect $2.50 in premium, someone on the other side of that trade is paying you $2.50. The natural question is: why? What are they paying you for, and why would they keep doing it week after week, making it possible for you to earn consistent income from this strategy?
Understanding the three sources of wheel strategy income is what separates traders who trust the strategy through rough patches from those who abandon it the moment it gets uncomfortable.
Source 1: Theta Decay — You're Selling Time
Every option has two components: intrinsic value (how far in the money it is) and time value (what the market charges for the possibility that the option could become more valuable before expiration). Time value decays predictably as expiration approaches — this is theta. When you sell an option, you receive the time value upfront. Every day that passes, some of that time value erodes and stays in your pocket. The option buyer is paying you to bear the risk of adverse price movement over time. That's the service you're providing: insurance against a significant price drop.
Source 2: The Volatility Risk Premium — Options Are Structurally Overpriced
Implied volatility (what options are priced at) consistently runs higher than realized volatility (what the stock actually does) over long periods. This isn't an accident — it's a feature. Option buyers are risk-averse, and they're willing to overpay slightly for price protection. The gap between implied and realized volatility represents a structural edge for sellers. This premium doesn't disappear, though it does compress in very low-IV environments and can temporarily invert during panic events. Research from academic institutions and trading firms consistently confirms this premium exists across asset classes and time periods.
Source 3: Strike Selection Edge — You Built In a Buffer
By selling puts below the market and calls above your ACB, you create a zone where the stock can move against you meaningfully before you actually lose money. This directional buffer isn't just psychological comfort — it represents a real mathematical advantage in terms of how often the strategy produces profitable outcomes. Use MoneySense.ai to research SEC filings and avoid the cases where realized volatility dramatically exceeds expectations due to company-specific events.
When Does the Wheel Strategy's Edge Disappear?
The three-source edge weakens when fundamentals collapse (the company becomes genuinely distressed), when a binary event causes a gap that exceeds your strike buffer, or when implied volatility is so depressed that the risk premium is too thin to justify the capital commitment. The first two you can mitigate through stock selection research. The third you can avoid through timing discipline — see our guide on optimal market conditions for starting campaigns.