Covered Call

Loading the player...

What is a 'Covered Call'

A covered call is an options strategy whereby an investor holds a long position in an asset and writes (sells) call options on that same asset in an attempt to generate increased income from the asset. This is often employed when an investor has a short-term neutral view on the asset and for this reason hold the asset long and simultaneously have a short position via the option to generate income from the option premium.

This is also known as a "buy-write".

BREAKING DOWN 'Covered Call'

For example, let's say that you own shares of the TSJ Sports Conglomerate and like its long-term prospects as well as its share price but feel in the shorter term the stock will likely trade relatively flat, perhaps within a few dollars of its current price of, say, $25. If you sell a call option on TSJ for $26, you earn the premium from the option sale but cap your upside. One of three scenarios is going to play out:

a) TSJ shares trade flat (below the $26 strike price) - the option will expire worthless and you keep the premium from the option. In this case, by using the buy-write strategy you have successfully outperformed the stock.

b) TSJ shares fall - the option expires worthless, you keep the premium, and again you outperform the stock.

c) TSJ shares rise above $26 - the option is exercised, and your upside is capped at $26, plus the option premium. In this case, if the stock price goes higher than $26, plus the premium, your buy-write strategy has underperformed the TSJ shares.

To know more about covered calls and how to use them, read The Basics Of Covered Calls and Cut Down Option Risk With Covered Calls.

RELATED TERMS
  1. Buy-Write

    A trading strategy that consists of writing call options on an ...
  2. Call Option

    An agreement that gives an investor the right (but not the obligation) ...
  3. Option Premium

    1. The income received by an investor who sells or "writes" an ...
  4. Call Price

    The price at which a bond or a preferred stock can be redeemed ...
  5. Call On A Put

    One of the four types of compound options, this is a call option ...
  6. Bear Call Spread

    A type of options strategy used when a decline in the price of ...
Related Articles
  1. Trading Strategies

    What is a Covered Call?

    A covered call is a call an investor sells on a stock he already owns.
  2. Options & Futures

    Cut Down Option Risk With Covered Calls

    A good place to start with options is writing these contracts against shares you already own.
  3. Forex Education

    1. Covered Call

    If you want to trade options but are short on strategies, we can help.
  4. Options & Futures

    The Basics Of Covered Calls

    Learn how this simple options contract can work for you, even when your stock isn't.
  5. Options & Futures

    Three Ways to Profit Using Call Options

    A brief overview of how to provide from using call options in your portfolio.
  6. Trading Strategies

    A Guide Of Option Trading Strategies For Beginners

    Options offer alternative strategies for investors to profit from trading underlying securities, provided the beginner understands the pros and cons.
  7. Options & Futures

    Trade The Covered Call - Without The Stock

    The standard covered call can be used to hedge positions or generate income. This calendar spread may do so more effectively.
  8. Options Seller Traders

    In contrast to buying options, an options seller trader sells stock options. This comes with an obligation to sell the underlying equity to a buyer if that buyer decides to exercise the option ...
  9. Options & Futures

    The Risks Of Writing Covered Calls

    While writing a covered call option is less risky than writing a naked call option, the strategy is not entirely riskfree.
  10. Options & Futures

    The Basics of Options Profitability

    The adage "know thyself"--and thy risk tolerance, thy underlying, and thy markets--applies to options trading if you want it to do it profitably.
RELATED FAQS
  1. How can derivatives be used to earn income?

    Learn how option selling strategies can be used to collect premium amounts as income, and understand how selling covered ... Read Answer >>
  2. Do options make more sense during bull or bear markets?

    Understand how options may be used in both bullish and bearish markets, and learn the basics of options pricing and certain ... Read Answer >>
  3. How are call options priced?

    Learn how aspects of an underlying security such as stock price and potential for fluctuations in that price, affect the ... Read Answer >>
  4. How do I determine what the right situation is to make a covered call?

    Learn what a covered call is, how to use a covered call strategy, and what situations to sell a call option against a long ... Read Answer >>
  5. When does one sell a put option, and when does one sell a call option?

    The incorporation of options into all types of investment strategies has quickly grown in popularity among individual investors. ... Read Answer >>
  6. What is the difference between a covered call and a regular call?

    Learn what a call option is, what two strategies call options can be used for, and the difference between a covered call ... Read Answer >>
Hot Definitions
  1. Stop-Limit Order

    An order placed with a broker that combines the features of stop order with those of a limit order. A stop-limit order will ...
  2. Keynesian Economics

    An economic theory of total spending in the economy and its effects on output and inflation. Keynesian economics was developed ...
  3. Society for Worldwide Interbank Financial Telecommunications ...

    A member-owned cooperative that provides safe and secure financial transactions for its members. Established in 1973, the ...
  4. Generally Accepted Accounting Principles - GAAP

    The common set of accounting principles, standards and procedures that companies use to compile their financial statements. ...
  5. DuPont Analysis

    A method of performance measurement that was started by the DuPont Corporation in the 1920s. With this method, assets are ...
  6. Call Option

    An agreement that gives an investor the right (but not the obligation) to buy a stock, bond, commodity, or other instrument ...
Trading Center