option-info and options-graphs sites:
Outlook: mildly bullish. The stock must stay above your purchase
price, less the premium received. But if the stock rises too much, you
miss out on gains beyond the strike price.
buy stock, sell call(s), using a strike price at or near the current
when: stock stays over purchase price less premium received.
Gain: strike price - stock purchase price + premium received.
when: stock falls more than the premium received.
Loss : unlimited.
Calculation: Stock purchase price - premium received.
compared to stock: slightly less capital required, some downside
compared to stock: cannot participate in gains beyond the strike
after entry, decreasing implied volatility is positive.
after entry, the passage of time is positive.
Requirement: Whatever margin you may have needed to buy the stock.
Unless you have permission from your broker for "naked" call
selling, you also must maintain the stock position as long as you are
short the calls. The stock is what makes the short calls "covered".
Covered Call, ITM; Covered
Equivalent: Short Put using same strike price.
Calls can be used if you want to make some income on a stock that you
are determined to hold for the long term, but believe is going nowhere
in the short term.
- Any stock
that has options can be converted to a covered call at any time.
If you buy stock and sell options in the same transaction, the strategy
is termed a "buy-write". After you are in the position, covered
calls and buy-writes are the same thing.
investors should understand what selling calls represents: they are
selling the right to buy their stock at the strike price of the calls
they sold. If this represents a good gain on the stock, that can be
a good outcome. If the strike price sold represents a loss on the stock,
or they do not want to be called out of their stock, then it can be
very expensive to buy back the sold calls to avoid assignment.
an ATM strike means you are agreeing to sell the stock at the price
it is right now. The difference between the covered call and just selling
the stock right now is the premium you take in for making that agreement.
If the premium represents a good return and you think it is likely the
stock will not fall or rise much, then the strategy makes sense. Just
remember that the premium is not free money, it reflects the risk you
are taking by owning stock which could fall in price. It also reflects
the risk of owning a stock which may have a large gain, but since you
sold the rights to it you can't participate in the large gain.
- See the
Call Strategies Disadvantages for
information concerning the possible pitfalls of the Covered Call strategy.
this is a neutral-to-bullish position, the trader is expecting the stock
to stay put or rise. If the stock falls instead, the premium brought
in will give some "downside protection", but cannot make up
for a large loss in the stock. If the stock falls by more than the premium
brought in, the safest course of action is to close out the entire position.
- If the
stock stays at or near the strike price sold, you should continue to
hold the position. You will not realize the maximum gain on the premium
you sold until after the option expires worthless. At that time you
can sell the stock if you wish, or continue to hold the stock and sell
more calls using the next expiration.
- If the
stock rises over the strike you sold, it is possible you will be "called
out" of your stock at any time: someone could exercise calls that
they bought. If you do not want to risk being called out, you need to
either buy the calls back, or roll them forward or up, as in the Adjustments.
- A common
recommendation is to roll the short calls when they have lost 80% of
their value due to time decay. This recommendation is actually trying
to catch the point in time when the near term calls have lost most of
their value, but the far term calls are not losing their value as quickly.
If you wait longer so the near term calls lose all their value, then
the longer term calls will probably have lost about as much.
rule of thumb that usually amounts to about the same thing is to roll
when there is just a week left to expiration on the near term calls.
At that time, the calls expiring the next month out will have about
five weeks to their expiration, and will still have decent premium for
the calls means to buy back the near month calls you are short, and
sell calls further out in time. The new calls you sell do not need to
be the same strike price. If the stock has moved up, you can sell a
higher strike price.
is a type of spread trade, and most brokers give a commission discount
for spread trades. A spread trade means you buy options and sell options
in one transaction. You can also roll by entering two separate trades,
but you will be charged two commissions.