As you probably already know, a call option gives the owner the right, but not the obligation, to buy the stock at the strike price by a fixed date.
When the price of the stock goes up the call increases in value.
So, you buy calls when you are expecting the underlying stock price to appreciate.
One strategy that is used by traders is to sell or write call options.
When the trader owns the underlying stock, this is referred to as a 'covered call'.
The buyer of the call option pays a premium to have the right to purchase the stock at the strike price at a fixed date.
So what are the advantages of this strategy? There are three main ones: 1) Cash Flow A lot of investors buy stock with the sole purpose of writing covered calls since this can be an income strategy.
Its a less risky strategy which can provide steady income and is approved for use in many retirement portfolios also.
One way of employing covered calls is to buy stock of larger companies that have maintained pretty steady prices over large periods of time and whose prices arent expected to soar anytime soon.
Once you own the stock, you write a covered call for a price modestly higher than the current price.
Lets assume one of two scenarios play out - (a) The stock appreciates significantly and before the expiration of the option you get a nice dividend.
Not only do you get a nice gain on your stock locked in but you also get to keep the dividend (b) The stock depreciates and is worth less than the strike price close to expiration.
You get to keep the call premium and the stock at the same time.
At this point you can issue a covered call on the same stock again.
2) Hedging There are times when you will own stocks of good companies in your portfolio long-term.
But, if you think that the stock might decline over the next few months or a year and you are not willing to sell just yet, you can hedge your long position with a covered call.
You will get to keep the option premium while you see how your decision pans out.
This strategy works best when there is little downside risk or upside potential in the near term and you want to get some income while you wait for the stock to appreciate.
3) To Get a Better Selling Price There are times you are just ready to sell a stock because its trading near its fair value.
So, you could sell a covered call at a price slightly higher than the current price to increase your overall return from the sale.
The neat part about this is that you get extra cash via the option premium and from the higher sell price.
The one thing you need to bear in mind when using covered calls with this objective is to be willing to settle for the selling price you decide on.
When the price of the stock goes up the call increases in value.
So, you buy calls when you are expecting the underlying stock price to appreciate.
One strategy that is used by traders is to sell or write call options.
When the trader owns the underlying stock, this is referred to as a 'covered call'.
The buyer of the call option pays a premium to have the right to purchase the stock at the strike price at a fixed date.
So what are the advantages of this strategy? There are three main ones: 1) Cash Flow A lot of investors buy stock with the sole purpose of writing covered calls since this can be an income strategy.
Its a less risky strategy which can provide steady income and is approved for use in many retirement portfolios also.
One way of employing covered calls is to buy stock of larger companies that have maintained pretty steady prices over large periods of time and whose prices arent expected to soar anytime soon.
Once you own the stock, you write a covered call for a price modestly higher than the current price.
Lets assume one of two scenarios play out - (a) The stock appreciates significantly and before the expiration of the option you get a nice dividend.
Not only do you get a nice gain on your stock locked in but you also get to keep the dividend (b) The stock depreciates and is worth less than the strike price close to expiration.
You get to keep the call premium and the stock at the same time.
At this point you can issue a covered call on the same stock again.
2) Hedging There are times when you will own stocks of good companies in your portfolio long-term.
But, if you think that the stock might decline over the next few months or a year and you are not willing to sell just yet, you can hedge your long position with a covered call.
You will get to keep the option premium while you see how your decision pans out.
This strategy works best when there is little downside risk or upside potential in the near term and you want to get some income while you wait for the stock to appreciate.
3) To Get a Better Selling Price There are times you are just ready to sell a stock because its trading near its fair value.
So, you could sell a covered call at a price slightly higher than the current price to increase your overall return from the sale.
The neat part about this is that you get extra cash via the option premium and from the higher sell price.
The one thing you need to bear in mind when using covered calls with this objective is to be willing to settle for the selling price you decide on.
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