Options Trading Strategy:
Selling Covered Calls
A trader who bought stock could use the covered calls
options trading strategy
to generate additional income from the investments on the neutral
market. Selling covered calls is selling a right to other traders to buy
the underlying stock at specific price (Strike Price)
and before or at specific date (Expiration
Date). If a trader expects a market to be fairly neutral, he or she
may consider selling covered calls.
The specific characteristic of the options is that they
loose their value with time and this is in the hands of the options seller.
The time decay is always on the side of an options seller and the closer to
the expiration the more sold calls loose its value, by giving more chances
to profit even in the neutral market.
Even if the options seller faces the unlimited risk, the
covered call options trading
strategy delivers some benefits:
- By selling
call options a trader receives a premium.
- If the sold
calls expire worthless, a trader keeps premium as a profit.
- If the
underlying stocks are traded above the strike price upon expiration, a
trader may have to return the premium partially, and in addition the
trader should receive profit from the owned stocks.
- If the stocks
drop in the price, a trader's loses are reduced by the premium received
from the sold calls.
The negative characteristic is in case of the strong
up-rally, when the call options could be probably exercised and the calls'
seller will be obliged to sell the asset at the strike price (cheaper then
current market price). In the case of the strong up rally when the price at
which call options are exercised is far above the strike price, a trader
could experience even losses.
The covered calls
options trading strategy
could be used when a trader owns stocks and expects the limited decline in
the stocks price or flat movement, however is not willing to sell the
stocks. In this way the received premium may help to off set the price
decline.
If a trader expects the owned stock to rise in price,
covered call options trading
strategy could be used as additional income while he/she stands in the
position waiting to sell the stocks at premium. I
If a trader expects a strong downside move, it's probably
better to sell owned stocks.
As a rule with the options
trading system that uses covered
calls trading strategy, the out-of-the-money options calls are considered
safer to sell. The in-the money options calls allow to collect higher,
however the risk is grater as well. 1-2 months to the expiration options
would deliver lower premium as well, however they are considered less risky
then 2-3 month to the expirations options.
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