DEFINITION of 'Writer'

A writer is the seller of an option who opens a position to collect a premium payment from the buyer. Writers can sell call or put options that are covered or uncovered. An uncovered position is also referred to as a naked option. For example, the owner of 100 shares of stock can sell a call option on those shares to collect a premium from the buyer of the option; the position is covered because the writer owns the stock that underlies the option and has agreed to sell those shares at the strike price of the contract.

BREAKING DOWN 'Writer'

An option is uncovered when the writer does not have an offsetting position in the account. For example, the writer of a put option, who agrees to buy shares at the contract’s strike price, is uncovered if there is not a corresponding short position to offset the risk of buying shares.

The primary objective for option writers is to generate income by collecting premiums when contracts are sold to open a position. The largest gains occur when contracts that have been sold expire out of the money. For call writers, options expire out of the money when the share price closes below the strike price of the contract. Out-of- the-money puts expire when the price of the underlying shares closes above the strike price. In both situations, the writer keeps the entire premium received for the sale of the contracts.

Covered writing is considered to be a conservative strategy for generating income. Uncovered or naked option writing is highly speculative due to potential for unlimited losses.

Call Writing

Covered call writing generally results in one of three outcomes. When the options expire worthless, the writer keeps the entire premium and can write options again to generate income. If the options expire in the money, the writer can either let the underlying shares be called away at the strike price or buy the option to close the position.

The outcomes of writing uncovered calls are generally the same with one key difference. If the share price closes in the money, the writer must either buy stock on the open market to deliver shares to the option buyer or close the position. The loss is determined by the cost of buying stock over the strike price or closing the option position, minus the premium received when the position was opened.

Put Writing

When a put writer is short the underlying stock, the position is covered if there is a corresponding number of shares sold short in the account. In the event the short option closes in the money, the short position offsets the loss of buying the shares. In an uncovered position, the writer must either buy shares at the strike price or buy the position to close. The loss is the difference between the market value of the shares and the strike price or the cost of closing the position, minus the initial premium.

RELATED TERMS
  1. Uncovered Option

    An uncovered option, or naked option, is an options position ...
  2. Premium Income

    1. In investing, income that is earned through the sale of an ...
  3. Allocation Notice

    An allocation notice, or exercise notice, notifies the option ...
  4. Options Contract

    A contract that allows the holder to buy or sell an underlying ...
  5. Naked Put

    A naked put is an options strategy in which the investor writes ...
  6. Put To Seller

    The exercise of a put option. Put to seller would usually occur ...
Related Articles
  1. Trading

    Options Hazards That Can Bruise Your Portfolio

    Learn the top three risks and how they can affect you on either side of an options trade.
  2. Trading

    The Basics of Options Profitability

    Learn the various ways traders make money with options, and how it works.
  3. Investing

    Why Options Trading Is Not for the Faint of Heart

    Trading options is not easy and should only be done under the guidance of a professional.
  4. Retirement

    Write Covered Calls To Increase Your IRA Income

    Covered calls may require more attention than bonds or mutual funds, but the payoffs can be worth the trouble.
  5. Personal Finance

    Becoming A Financial Writer

    Instead of working on Wall Street, write about it.
  6. Insights

    Writers Guild Authorizes Strike, Negotiations Continue

    Networks and writers are renegotiating contracts that expire May 2nd.
  7. Trading

    A Newbie's Guide to Reading an Options Chain

    Learning to understand the language of options chains will help you become a more effective options trader.
RELATED FAQS
  1. My brokerage firm won't allow naked option positions. What does this mean?

    A naked position refers to a situation in which a trader sells an option contract without holding a position in the underlying ... Read Answer >>
  2. When is a put option considered to be "in the money"?

    Learn about put options, what they are, how these financial derivatives operate and when put options are considered to be ... Read Answer >>
  3. How do you trade put options on E*TRADE?

    Learn all about put option trading at E*TRADE. Explore margin accounts and become familiar with the different types of option ... Read Answer >>
Hot Definitions
  1. Market Capitalization

    Market Capitalization is the total dollar market value of all of a company's outstanding shares.
  2. Capital Asset Pricing Model - CAPM

    Capital Asset Pricing Model (CAPM) is a model that describes the relationship between risk and expected return and that is ...
  3. Return On Equity - ROE

    The profitability returned in direct relation to shareholders' investments is called the return on equity.
  4. Working Capital

    Working capital, also known as net working capital is a measure of a company's liquidity and operational efficiency.
  5. Bond

    A bond is a fixed income investment in which an investor loans money to an entity (corporate or governmental) that borrows ...
  6. Compound Annual Growth Rate - CAGR

    The Compound Annual Growth Rate (CAGR) is the mean annual growth rate of an investment over a specified period of time longer ...
Trading Center