The Covered Call is a strategy in options trading whereby call options are written against a holding of the underlying security.
Hold 100 shares; Sell 1 call.
A covered call collects premium from selling a call against shares already held. The investor retains the shares, dividends and voting rights until the shares are sold or delivered following assignment. An American-style short call can be assigned before expiration.
In exchange for the premium, the investor gives up stock gains above the call strike while the call remains open. The strategy therefore suits a holder willing to sell the shares at that price.
Out-of-the-money Covered Call
This is a Covered Call strategy where the moderately bullish investor sells out-of-the-money calls against a holding of the underlying shares. The OTM Covered Call is a popular strategy as the investor gets to collect premium while being able to enjoy capital gains (albeit limited) if the underlying stock rallies.
Limited Profit Potential
In addition to the premium received for writing the call, the OTM Covered Call strategy's profit also includes a paper gain if the underlying stock price rises, up to the strike price of the call option sold.
Call strike price minus the stock purchase price, plus the call premium received.
Substantial but Finite Downside Risk
Losses can be substantial if the stock falls. The premium provides only a small cushion against the share loss; it does not provide a protective floor.
Stock purchase price minus the call premium received, per share, if the stock falls to zero. Add costs and multiply by the shares covered.
Breakeven Point(s)
Stock purchase price minus the call premium received, provided that price is at or below the call strike.
Example
A trader buys 100 XYZ shares at $50 and sells one July $55 call for $2 per share. The shares cost $5,000 and the call brings in $200, leaving a net opening cost of $4,800 before fees.
On expiration date, the stock had rallied to $57. Assuming the $55 call is exercised and assigned, the writer sells the shares for a $500 stock gain. Including the $200 option premium, total profit is $700 before costs. Assignment and exercise instructions should be checked with the broker rather than treated as certain from the stock’s closing price alone.
At the $57 expiration price, the call buyer has $2 per share of intrinsic value against the $2 premium paid, breaking even before costs.
If the stock instead falls to $43 at expiration, the call premium offsets only part of the stock loss.
At expiration with the stock at $43, the shares show a $700 loss and the call expires without intrinsic value. The $200 premium reduces the combined loss to $500 before costs. The call buyer loses the $200 premium paid.
These examples use standard U.S. stock options with a 100-share contract size and matching expiration dates. Related structures can use ETF, index or futures options, but contract multipliers, exercise style, settlement and the underlying price range can differ. A stock’s zero price floor must not be assumed for every futures contract.
Commissions
For ease of understanding, these examples exclude commissions, fees and financing costs. Include all costs when comparing an actual position; there is no universal commission amount.
For active traders, transaction costs can consume a significant part of returns. Compare the full commission and fee schedule, exercise and assignment charges, and bid-ask spreads. The cost of entering and closing every leg matters.
Summary
Writing out-of-the-money Covered Calls can fit an investor who is mildly bullish and willing to sell the shares at the strike price. The premium provides a limited cushion against a stock decline, while the call caps participation in a large rally. Having a target selling price does not by itself make this strategy suitable; consider the stock loss, assignment, dividends, tax consequences and costs.
Research covered calls
Explore covered calls on Market Chameleon alongside your own analysis.
Full screening features may require a paid subscription. Market data is delayed.
Similar Strategies
The following strategies offer related market exposure. Compare their construction, cost, maximum loss and assignment obligations; a similar outlook does not mean identical risk.
Collars
A collar adds a protective put to the covered call. The put establishes a downside floor through expiration, at the cost of its premium.
In-The-Money Covered Call Strategy
In-The-Money Covered Call options are sold when the investor has a neutral to slightly bearish outlook towards the underlying security as their higher premiums provide greater downside protection.
Amounts are per share before fees. Multiply by the shares covered by the position; standard equity options usually cover 100 shares per contract. If a maximum profit or loss calculation gives a negative amount, use zero. These figures assume matching contracts held to expiration and do not include financing or early assignment.
Before expiration and assignment
The diagrams and worked outcomes describe expiration payoffs, not an option’s market price before expiration. Time decay, implied volatility, rates, dividends and bid-ask spreads affect early closing values. American-style short options can be assigned early; a protective long option is not automatically exercised when a short leg is assigned. Closing or exercising one leg can change the remaining position’s risk.
In the example, a stock price of zero would produce a maximum loss of $4,800 before costs: the $5,000 share purchase less the $200 premium. The Covered Call is not protected against most of the stock’s decline.
Compare This Strategy
Optional further reading to help you compare the tradeoffs.
- Bull Call Spread vs Covered Call — Compare the amount that can be lost, whether stock ownership matters and how long the position can be held.
- Covered Call vs Cash-Secured Put — An existing shareholder may be deciding whether to sell a call on that holding.
- Covered Call vs Poor Man’s Covered Call — Compare ownership and funding needs before comparing premium income.
Advanced Strategy Variations
Build on the core strategies with these less common structures. Match the option legs and expirations when comparing names.
Total return and the upside given up
Buy 100 shares at $50 and sell one $55 call for $2. With no dividends or costs, net outlay is $4,800. At expiration with stock at $60 and the call assigned, shares sell for $5,500 and total profit is $700. Simply holding the shares would have gained $1,000. The $200 premium partly compensates for giving up upside beyond the strike; it does not provide both the premium and unlimited stock gains.
At stock $40 with the call worthless, the package is worth $4,000 and loses $800 against the net outlay. If the shares go to zero, loss can reach $4,800. “Covered” describes the ability to deliver shares, not protection against a large stock decline.
An early-assignment review
If an in-the-money call has little remaining time value just before an ex-dividend date, review the incentive for a holder to exercise and the possibility of losing the shares before collecting the dividend. Assignment is not certain, and the exact decision depends on financing, time value and other circumstances.
Keep stock P/L, option P/L and actual dividends in the same ledger. Do not count a dividend in a scenario where the stock was delivered before entitlement. When a call remains open, subtract its current liability from any marked portfolio value instead of treating its full premium as already earned.
