Covered Combination

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A Covered Combination holds the underlying shares and sells a lower-strike put and a higher-strike call on the same underlying and expiration. Only the call is covered by those shares; the put can require an additional stock purchase. For a nonnegative stock the total downside loss is large but finite.

Limited Profit Potential

Maximum gain for the Covered Combination is achieved when the underlying stock price on expiration date is trading at or above the strike price of the call options sold. This is the price where the trader's long stock gets called away for a profit plus he gets to keep all of the initial credit received when he entered the trade.

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Loss potential

Large losses can be experienced when writing a Covered Combination when the underlying stock price makes a strong move downwards below the breakeven point at expiration. This strategy loses money twice as fast as a regular Covered Call write as the Covered Combination loses not only on the long stock position but also on the short put.

Breakeven Point(s)

Example

Suppose XYZ stock is trading at $52 in June. An options trader executes a Covered Combination strategy by selling a JUL 50 out-of-the-money put for $100 and a JUL 55 out-of-the-money call for $100 while purchasing 100 shares of XYZ for $5200. The total premiums received for selling the options are $200.

On expiration in July, if XYZ stock rallies above the strike price to $57, the JUL 50 put expires worthless while the JUL 55 call expires in the money and the 100 shares get called away for $5500, producing a gain of $300 on the long stock position. Including the $200 in premiums received upon entering the trade, the total profit comes to $500 which is also the maximum profit attainable.

However, if the stock price drops below the breakeven to $45, the JUL 55 call expires worthless but the naked JUL 50 put and long stock position suffer large losses. The short JUL 50 put is now worth $500 and needs to be bought back while the long stock position has lost $700 in value. Factoring in the $200 premiums received earlier, the total loss comes to $1000.

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.

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.

Uncovered Put Write

Stock Repair Strategy

In-The-Money Covered Call

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.