Covered options trading
Twitter Peggy James is a CPA with 8 years of experience in corporate accounting and finance who currently works at a private university, and prior to her accounting career, she spent 18 years in newspaper advertising. She is also a freelance writer and business consultant. Article Reviewed on October 29, Margaret James Updated October 29, A covered call is an options strategy involving trades in both the underlying stock and an options contract. The trader buys or owns the underlying stock or asset.
A covered call refers to a financial transaction in which the investor selling call options owns an equivalent amount of the underlying security. To execute this an investor holding a long position in an asset then writes sells call options on that same asset to generate an income stream. The investor's long position in the asset is the "cover" because it means the seller can deliver the shares if the buyer of the call option chooses to exercise.
- Options Trading Basics Uncovering the Covered Call: An Options Strategy for Enhancing Portfolio Returns Selling covered calls is a neutral to bullish trading strategy that can help you make money if the stock price doesn't move.
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If the investor simultaneously buys stock and writes call options against that stock position, it is known as a "buy-write" transaction. Key Takeaways A covered call is a popular options strategy used to generate income in the form of options premiums.
To execute a covered call, an investor holding a long position in an asset then writes sells call options on that same asset. It is often employed by those who intends to hold covered options trading underlying stock for a long time but does not expect an appreciable price increase in the near term.
- Writers of covered calls typically forecast that the stock price will not fall below the break-even point before expiration.
- Because it is a limited risk strategy, it is often used in lieu of writing calls " naked " and, therefore, brokerage firms do not place as many restrictions on the use of this strategy.
This strategy is ideal for an investor who believes the underlying price will not move much over the near-term. This strategy is often employed when an investor has a short-term neutral view on the asset and for this reason holds the asset long and simultaneously has a short position via the option to generate income from the option premium.
Simply put, if an investor intends to hold the underlying stock for a long time but does not expect an appreciable price covered options trading in the near term then they can generate income premiums for their account while they wait out the lull. A covered call strategy is not useful for a very bullish nor a very bearish investor.
If an investor is very bullish, they are typically better off not writing the option and just holding the stock. The option caps the profit on the stock, which could reduce the overall profit of the trade if the stock price spikes. The maximum loss is equivalent to the purchase price of the underlying stock less the premium received.
In this case, by using the buy-write strategy they have successfully outperformed the stock. Compare Accounts.