A covered call means you own at least 100 shares of a stock and sell one call option against them. You get paid a premium today, and in return you agree to sell your shares at the strike price if the buyer exercises. It is one of the most common ways to sell options, and one of the easiest to misunderstand.
How a covered call works
Say you own 100 shares of a stock trading at $40. You sell one call with a $45 strike that expires in 30 days and collect a premium of $1 per share, which is $100. Three things can happen by expiration:
- The stock stays below $45. The call expires worthless. You keep the $100 and your shares, and you can sell another call.
- The stock rises above $45. Your shares are likely called away at $45. You keep the $100 premium plus the gain from $40 to $45, but you miss anything above $45.
- The stock falls. You keep the $100, which softens the loss a little, but you still own shares that are worth less.
The numbers in one table
| Stock price at expiry | Result on 100 shares (bought at $40) |
|---|---|
| $35 | −$500 on shares + $100 premium = −$400 |
| $40 | $0 on shares + $100 premium = +$100 |
| $45 | +$500 on shares + $100 premium = +$600 (maximum) |
| $55 | Shares sold at $45, so still +$600 |
Notice the shape: your upside is capped, but your downside is almost the same as just holding the stock.
What you give up
The trade-off Capped upside
A covered call does not protect you from a crash. The premium is small compared with what the stock can lose. What you sell is the chance of a big move up. If you would be upset to sell the stock at the strike price, do not sell the call.
Pros
- Regular premium income
- Lower risk than holding shares alone
Cons
- Gains above the strike are lost
- Losses on the shares are still yours
Early assignment
US stock options can be exercised any time before expiry. Early assignment is uncommon, but it happens more often when the call is deep in the money or just before the stock pays a dividend. Plan as if your shares could be sold at the strike on any day.
Choosing a strike and expiry
- Strike further above the price: less premium, but more room for the stock to grow.
- Strike close to the price: more premium, but a higher chance your shares are called away.
- Expiry 30–45 days out is popular because time decay speeds up in the last month, but there is no single right answer.
Conclusion
Covered calls turn some of a stock’s future upside into cash today. They work best on shares you are happy to hold and happy to sell at the strike. If you are new to options, read options basics first. You can also pair them with cash-secured puts.
Leave a Reply