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Uncovering the Covered Call: An Options Strategy for Enhancing Portfolio Returns

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Covered Calls Explained

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The maximum risk of a covered call position is the cost of the stock, less the premium received for the call, plus all transaction costs. Rolling strategies can entail substantial transaction costs, including multiple commissions, which may impact any potential return. You are responsible for all orders entered in your self-directed account. Market volatility, volume, and system availability may delay account access and trade executions.

Past performance of a security or strategy does not guarantee future results or success. Options are not suitable for all investors as the special risks inherent to options trading may expose investors to potentially rapid and substantial losses. Options trading subject to TD Ameritrade review and approval.

Please read Characteristics and Risks of Standardized Options before investing in options. Supporting documentation for any claims, comparisons, statistics, or other technical data will be supplied upon request. This is not an offer or solicitation in any jurisdiction where we are not authorized to do business or where such offer or solicitation would be contrary to the local laws and regulations of that jurisdiction, including, but not limited to persons residing in Australia, Canada, Hong Kong, Japan, Saudi Arabia, Singapore, UK, and the countries of the European Union.

TD Ameritrade, Inc. All rights reserved. Uncovering the Covered Call: An Options Strategy for Enhancing Portfolio Returns Selling covered calls is a neutral to bullish trading strategy that can help you make money if the stock price doesn't move. By Scott Connor June 12, 7 min read. Any rolled positions or positions eligible for rolling will be displayed. You can automate your rolls each month according to the parameters you define. Start your email subscription.

Episodes on Covered Call

Recommended for you. Related Videos. Call Us Site Map. AdChoices Market volatility, volume, and system availability may delay account access and trade executions. This link takes you outside the TD Ameritrade Web site. Clicking this link takes you outside the TD Ameritrade website to a web site controlled by third-party, a separate but affiliated company.

TD Ameritrade is not responsible for the content or services this website. If an investor is very bullish, they are typically better off not writing the option and just holding the stock. The option caps the profit on the stock, which could reduce the overall profit of the trade if the stock price spikes. Similarly, if an investor is very bearish, they may be better off simply selling the stock, since the premium received for writing a call option will do little to offset the loss on the stock if the stock plummets.

The maximum profit of a covered call is equivalent to the strike price of the short call option, less the purchase price of the underlying stock, plus the premium received. The maximum loss is equivalent to the purchase price of the underlying stock less the premium received. An investor owns shares of hypothetical company TSJ. One of two scenarios will play out:. As with any trading strategy, covered calls may or may not be profitable.

Covered Call Definition

The highest payoff from a covered call occurs if the stock price rises to the strike price of the call that has been sold and no higher. Thus, the investor benefits from a modest rise in the stock and collects the full premium of the option as it expires worthless.

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Like any strategy, covered call writing has advantages and disadvantages. If used with the right stock, covered calls can be a great way to reduce your average cost or generate income. Covered calls are considered relatively low risk. Covered calls, however, would limit any further upside profit potential if the stock continued to rise, and would not protect much from a drop in the stock price.

Note that unlike covered calls, call sellers that do not own an equivalent amount in the underlying shares are naked call writers. Naked short calls have theoretically unlimited loss potential if the underlying security rises. Depending on the custodian of your IRA and your eligibility to trade options with them, yes. There are also certain advantages to using covered calls in an IRA. The possibility of triggering a reportable capital gain makes covered call writing a good strategy for either a traditional or Roth IRA.

Investors can buy back the stock at an appropriate price without having to worry about tax consequences, as well as generate additional income that can either be taken as distributions or reinvested. In contrast to call options, put options grant the contract holder the right to sell the underlying as opposed to buy it at a set price.

The equivalent position using puts would involve selling short shares and then selling a downside put. This, however, is uncommon. Instead, traders may employ a married put , where an investor, holding a long position in a stock, purchases a put option on the same stock to protect against depreciation in the stock's price. Advanced Options Trading Concepts. Your Privacy Rights. To change or withdraw your consent choices for Investopedia. At any time, you can update your settings through the "EU Privacy" link at the bottom of any page.