Covered Call

What is a Covered Call?

A covered call is when you own 100 shares of a stock and sell a call option against those shares. You collect a premium upfront for selling the call, and in exchange you agree to sell your shares at the strike price if the stock goes above it by expiration. It is called "covered" because your shares cover the obligation.

This is the bread-and-butter income strategy for options traders. You already own the stock, and you sell calls against it to generate extra income while you hold.

How to Set It Up

• Own 100 shares of the underlying stock (you need exactly 100 shares per contract)
• Sell 1 call option at a strike price above the current stock price
• Strike selection: Sell OTM calls. The further OTM, the less premium you collect, but the more room you give the stock to go up before getting called away. A strike 5-10% above current price is a common starting point.
• Expiration: 30-45 days out is the sweet spot. This is where time decay (theta) works hardest in your favor.

You collect the premium immediately. That money is yours no matter what happens.

When to Use This Strategy

Use covered calls when:

• You own shares and are willing to sell them at a higher price
• You think the stock will stay flat or go up slightly
• You want to generate income on shares you are holding long-term
• You want to lower your cost basis over time

Do not sell covered calls if you think the stock is about to have a big breakout to the upside. You would be capping your gains right when you need them most.

Example Trade

You own 100 shares of XYZ at $100 per share ($10,000 invested).

• Sell 1 XYZ $105 call expiring in 30 days for $2.00
• Premium collected: $2.00 x 100 = $200

Scenario 1: XYZ stays at $100. The call expires worthless. You keep your shares and the $200. Sell another call next month. Rinse and repeat.

Scenario 2: XYZ goes to $110. Your shares get called away at $105. You made $5 per share ($500) in stock gains plus $200 in premium = $700 total profit. You miss out on the extra $5 move from $105 to $110, but $700 on a $10,000 position in 30 days is solid.

Scenario 3: XYZ drops to $95. The call expires worthless. You keep the $200, which reduces your loss. Without the covered call, you would be down $500. With it, you are down $300.

Risk and Reward

• Max profit: (Strike price - stock purchase price + premium) x 100. Your upside is capped at the strike. In our example, $700.
• Max loss: If the stock goes to zero, you lose the full value of your shares minus the premium collected. The covered call does not protect you from a big crash.
• Breakeven: Your stock cost minus the premium. In our example, $100 - $2 = $98.

The premium you collect lowers your breakeven on every trade. Over time, selling covered calls consistently can significantly reduce your cost basis.

Tips and Common Mistakes

• Do not sell calls too close to the money just for higher premium. Getting called away constantly means you miss long-term gains and trigger taxable events.
• Do not panic if the stock goes above your strike. Getting called away at a profit is a win. Reframe how you think about it.
• Roll the call if needed. If the stock is approaching your strike and you want to keep your shares, you can buy back the call and sell a new one at a higher strike and/or later expiration.
• Stick to stocks you want to own long-term. Covered calls work best as a consistent income strategy on quality holdings, not on random volatile stocks.

Related Strategies

• Cash-Secured Put — the entry side of the Wheel strategy, pairs naturally with covered calls
• The Wheel — combines selling puts and covered calls into a systematic income approach
• Collar — adds a protective put to your covered call for downside protection