Covered Call FAQ
What is a covered call?
A covered call is a combination of two simple trades: you buy shares of an ETF and sell call options (stock options) on those shares, which is known as writing a covered call. Writing covered call options brings in income into your account. When the call options reach expiration, you sell the stock or write new calls on it, for even more income. This strategy can produce a steady monthly income, which offers the opportunity for annualized double digit returns per year.
What market is right for covered calls?
Any market, but you forfeit potential gains in a raging market.
How do I make money on a covered call?
Profits are realized from the premium retained from selling the covered call option and in some cases profits are also realized from the appreciation in the price of the purchased stock.
Are covered calls trades safe?
While no trading or investing strategy can ever be called truly safe, covered call writing is widely considered one of the safest and most conservative trading strategies available. Covered call writing provides income from owning stocks, and that income provides downside protection and lowers volatility across different market trends. In fact, covered call writing is the only option strategy the US Government wants you to do in I.R.A. accounts.
How do I win or lose with a covered call position?
As long as the stock price at options expiration is the greater than or equal to the original price when purchased, the position will be profitable. In many cases, the stock can even decrease in price and still experience a profit given the covered call premiums that you earn. If the stock price decreases significantly, then your position may experience a loss.
How much money can I make?
Covered calls aim to help you realize a profit on your existing or planned investments. Total profits are proportional to the size of the investment. Remember: ETFs and covered calls are investments in the stock market. Past performance is not an indicator of future performance.
How much money do I need to trade a covered call?
For each covered call position, the minimum capital required is the price of the stock purchased multiplied by 100 (#shares in an option contract).
Full service trades through our partner website are a minimum of $100,000.
How do I begin?
Before purchasing a stock in order to write covered calls on it, first do the proper research and technical analysis on the stock. Keep in mind that some of the highest covered call returns occur on very volatile or unsafe stocks. Your job as an investor is to sort through the chaff and enter trades that are appropriate for the stock chosen in light of market conditions. But this is not nearly as difficult as many traders think it to be. We teach you to evaluate the market and the individual stock and – if the stock upon completion of analysis is a good covered call candidate – choose the appropriate call strike to sell.
Should I use a broker to write covered calls?
You can only write covered calls through an options account at a brokerage firm. However, the choice is up to you whether to trade through a live broker or to enter your orders online. An experienced options broker can be a valuable ally.
Can anyone trade options?
Yes, anyone with a brokerage account that supports option trading can trade options. However, you will have to fill out some paperwork your broker provides to qualify for option trading. If your experience level and/or account capital is too low, you may have trouble getting qualified to trade options.
Can I learn how to write covered calls?
Yes! If you can learn and apply new things you can learn to trade. Options can be very complex, but learning how to sell covered calls is not . If you have some basic investment knowledge, you can trade with the best. You just have to get your arms around a few basic concepts and learn some simple techniques.
Do you offer education on covered call writing and other option strategies?
Not only do we offer education for covered call writing (and for that matter, other simple but great option strategies), we offer some of the best education and best trading training available anywhere. In fact, a lot of the tips and strategies are proprietary. Much of what is said and believed about options is true, but covered calls are often misunderstood by the general public. We are not interested in fancy theories… only in what works and what can be duplicated and taught to others.
Where can I learn more?
What are the Risks of covered calls?
Investing in the stock market: Writing covered call options requires that the investor own stocks or Exchange Traded Funds, which are stock market investments that are subject to market risk. Writing covered calls, however, provides some downside protection in declining markets. Therefore, the investor in stocks or Exchange Traded Funds on which the covered call options have been written is always better off if they decline in value than the investor who owns the same stocks or ETFs but does not write covered call options.
Limited gains in rising market: An covered call writers potential gain is limited to the amount of the call writing income plus any gain in price of the underlying ETF from the time the option was written up to the dollar amount of the strike price (see glossary) Depending on the strike price and the extent of the rise in the underlying ETF prior to the expiration date, in a rapidly rising market the option writer may not benefit from all the rise in an ETF. While still profitable, an option writer faces the risk that it might have been better financially to have simply held the ETF and not written covered call options in a rapidly rising market.
Unanticipated exercise of call options: The holder (the buyer) of the covered call option has the right, but not the obligation, to buy (exercise) the option writer’s ETF at the strike price at any time through the expiration date. A covered call writer can expect that his ETF will never be subject to exercise if the market price of the ETF is less than the strike price of the call option written. If, however, the market price rises above the strike price before expiration, it is possible that the holder could exercise the call option at any time, thus requiring the covered writer to sell the underlying ETF at the strike price. Exercise of options generally occurs at the expiration date, and then usually only if the market price exceeds the strike price. On occasion, however, a holder will exercise an option prior to the expiration date. This is beneficial in some respects for the covered call writer, as the writer is paid the strike price early and can decide how to deploy the funds immediately instead of having to wait until the expiration date.
Potential of option market liquidity: Options generally trade in much smaller quantities than common stock or ETF shares. Options for some ETFs are very actively traded. This may cause the bid and ask price spread to widen significantly. For this reason, investors are encouraged to always place limit orders (see glossary) with their brokers on option trades instead of market orders to eliminate the risk of an order being filled at a different price than what a current quote might indicate.
Possibility of a decrease in option premiums: The price of a covered call writing option premium (See glossary) is determined by the market forces. During periods of market volatility, option premiums tend to be greater than during periods of stable markets. It is not possible to predict future volatility. Should markets become less volatile, or should markets be less attractive to investors in the future, it is possible that option premiums may not be as large as they have been in the past. Such an occurrence would tend to make the returns on covered calls less attractive than they have been during periods of high volatility.
