Covered Call

Covered calls are popular with a variety of investors due to their conservative nature. Any trader with the dedication to learn what a covered call is can take advantage of their benefits and make money from this instrument. In making these profits, traders diversify their portfolio and provide themselves with more tools for expanding opportunity. In this article, we will discuss what covered calls are and how they can be useful to many different kinds of traders.

What is a Covered Call After All?

The best way to explain a covered call is to compare it to regular stock. With regular stock, you can sell it any time to make a profit from the difference between buy and sell price. With covered calls, the seller is granting the right to buy their asset to another party, receiving in exchange money paid in real time.

With a call, you are giving the other party the privilege, but not the obligation, to buy shares of stocks that you own, known as the underlying asset, at a pre-agreed upon price known as the strike price. They may make this purchase at any time prior to the expiration date, which too is written into the original options contract.

An example of this is as follows: you sell somebody a contract to buy 200 shares of a company that you own for $50 at any time before June 3rd. This is the fundamental of an options contract that perhaps you’ve heard so much about. So what makes this a covered call relative to standard calls? The call is considered covered if the selling party actually owns the underlying asset. With a regular call, this cannot be assumed. What does this means for the selling party? Well in a standard call, they would have to buy the stock at market rate in order to sell it to the buying party in the case of exercise. With a covered call, this asset has already been purchased and is property of the selling party from the start.

It’s clear to see why people purchase covered calls, but there must be a reason to offer them. Well in order to buy a covered call, or an option of any kind, you must pay a premium. Think of this as your investment’s principal. It’s an amount that you invest into a possible gain, but either way the seller of the option gets to keep this fee. That gives incentive to both parties to become involved with options.

Related Pages

Option Strategies

Covered Call Writing

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