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Covered Calls: 3 Business Settings to Maximize Covered Call Revenue

Writing covered calls for income is an attractive strategy, as you can generate profits in a variety of different markets. Like many options trading strategies, the trade can be made more conservative or more aggressive.

To review, a covered call option is constructed when you own 100 shares of an optional share and sell to someone else the right to buy those shares from you at a specific exercise price before a specific expiration date. If, upon maturity, the shares are trading above the strike price, the call option will be exercised and you will be required to sell the shares at the agreed price.

The most conservative approach is to write the hedged call option in the money, or at a strike price below the current share price. The cash premium you receive will consist of the amount of the option in the money, as well as the additional premium based on time value (as long as the strike price is not too deep). You will receive less time premium (net income) with this approach, but the advantage is that you will get much more protection against the downside, as stocks will have to go much lower for you to lose money (you would have to trade below the strike price minus the amount of time bonus received).

Writing the call option in the money, or at a strike price that is very close to where the stock is currently trading, will give you more time premium but less protection. And getting the call out of the money by choosing a strike price higher than the current price of the stock will give you the least amount of downside protection, but will produce the most profit if the stock is trading significantly higher.

It is important to realize that while the original strike price chosen is vitally important to how the trade plays out, there are additional adjustments and modifications that you can also make to the covered call position once it has been established. the operation. Here are three of these business adjustments to maximize your covered call revenue:

  1. Close the position early if the underlying stock makes a big move higher. This is an especially good idea if the stock makes a big move early in the options cycle. If the maximum profit on the trade is 4%, for example, but the stock makes a big move early so that the trade is already up 3% in the first week, you should definitely consider closing the position early. Not only does it secure your earnings (and for a higher annualized return), it also frees up your funds for other covered calling opportunities.
  2. Lower the call option if the underlying stock is trading down sharply. This can be a bit tricky to achieve. If a covered call really starts to move against you, it might be better to just close the position and cut your losses. But if you’ve chosen a quality company in the first place and the stock has fallen but not completely collapsed, you can always down the call and buy back the call you originally sold (it will be worth considerably less now) and then resell another to a lower exercise price. This will earn you more income (which equates to additional downside protection), but comes at a price – if the stock rallies sharply, you will most likely lose.
  3. If the stock tends to go down, close the position early and wait. This is similar to example n. 2 above, but works best on stocks that have fallen rather than those that have fallen sharply. It also works best as part of the covered call strategies used by investors with long-term portfolios who are in no rush to sell their shares. If a stock is constantly declining, such that the original call option you sold has lost a large part of its value and there is a long time left before expiration, you may want to buy back the call and wait to see what the stock does next. If the stock begins to rally, you can resell another call option at the original strike price after that option has risen in value again. However, if the stock continues to decline, you can eventually write the new call at a lower strike price, a kind of slow move down from your original covered buy trade.

Covered call writing, when practiced wisely, is a conservative strategy that can generate attractive income streams. It is also a flexible strategy that can be modified to maximize that income. But it is not without risk and should not be approached without due diligence or without being aware of potential obstacles.

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