Covered Call Strategy

The Covered Call is a popular income-generating options strategy used by investors who already own shares of a stock and want to earn premium income while potentially selling the stock at a target price. It involves selling a call option against a long stock position, effectively "covering" the obligation to deliver shares if the option is exercised.

Structure

• Hold 100 shares of the underlying stock
• Sell 1 Call Option (typically OTM or ATM)
• Both positions must be in the same underlying asset

Profit & Loss Profile

• Max Profit: Limited to the premium received plus any stock appreciation up to the call strike
• Max Loss: Substantial; occurs if the stock drops significantly—offset only by the premium received
• Breakeven: Stock purchase price minus premium received
• Greeks: Delta-positive (long stock), Theta-positive (time decay from short call), Vega-neutral to slightly negative

Example

You own 100 shares of XYZ at $50. You sell a 1-month $55 Call for $2.00.

• If XYZ stays below $55, you keep the $2 premium and retain the shares
• If XYZ rises above $55, your shares may be called away at $55, locking in a $5 gain plus the $2 premium
• If XYZ drops to $45, your unrealized loss is $5 per share, partially offset by the $2 premium

Ideal Market Conditions

• Outlook: Neutral to moderately bullish
• Volatility: Elevated IV improves call premium
• Time Horizon: Short- to medium-term
• Goal: Generate income while holding stock

Risk Considerations

• Upside is capped at the call strike price
• Stock downside is not protected
• Early assignment risk if call is ITM before expiration
• Tax implications if shares are sold via assignment
• Requires owning 100 shares per contract

Summary

The Covered Call is a straightforward strategy for generating income from stocks you already own. It’s best suited for stable or modestly rising markets and can be repeated over time. While it limits upside potential, it offers a disciplined way to monetize stock holdings and reduce cost basis.