Options Strategy - Covered Call

Introduction

A covered call strategy is a popular strategy to generate income and reduces some risk of being long on the stock alone. Traders may use this strategy when they have a short-term position in the underlying stocks and neutral view on it. They can earn profit through the premium from the call option.

Composition

  • purchase the underlying stock
  • At the same time sell a call option on the same share.

Example

  • Buy 500 XYZ shares at $20, Total Cost: $10,000
  • Sell 5 call options. Strike Price: $25, Expiration: 180 days, Premium $1,500 in total ($300 per option)
  • Maximum Gain: $3005+($25-$20)500 = $4,000
  • Maximum Loss: $10,000 - $1,500 = $8,500

Pay Off Chart

Image of chart

Maximum Gain

The profit is limited to: "The Call premium Peceived" + "Strike Price" - "Stock Price"

Maximum Loss

Risk is substantial if the stock price declines. If the stock price declines below the breakeven point, the option seller of this strategy has the full risk.

Still doesn't understand? Try our intuitive option strategy generator!