Secret 49 WHEN TO USE COVERED CALL WRITING
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One conservative way to write options is to do covered call
writing. This is a way to generate additional income for your
stock portfolio. Covered call writing refers to writing calls against
the stocks that you own.
Here, there is no risk from writing the call. The obligation of
writing the call is offset by owning the stock. For example, if you
own 100 shares of Pfizer priced at 40 and write the Pfizer Jan 45
call at 2, you receive $200 to your account but are obligated if
Pfizer is above 45 and you are exercised to deliver the stock at 45.
Covered call writing is ideal when you have a target where
you wish to sell the stock. Then you are getting paid as you wait
for the stock to hit your target. In our Pfizer example, if your target
for Pfizer was 45, you receive $200 as you wait for the stock
to exceed 45. If the stock does not get to 45, you can write another
option with a strike price of 45 and collect more premium
as you wait. If the stock is called away at 45, you receive 45+2 or
$47 a share.
When you don’t want to sell the stock, follow the guidelines
that we presented in the previous chapters. Only write an out-ofthe-
money option with a high probability of expiring, set a stoploss
and buy back the option if the stop is hit. Then you can roll
into a new option writing position, further out-of-the-money if
you desire.
Your danger here is that the stock could gap up over the
strike price, and you could take a bath buying back those options.
Always close out all positions when most of the premium vanishes.
Avoid covered call writing on a stock in a strong up-trend
unless you believe it is making a top, and then it may be wiser to
sell the stock than to write calls on the stock.
One conservative way to write options is to do covered call
writing. This is a way to generate additional income for your
stock portfolio. Covered call writing refers to writing calls against
the stocks that you own.
Here, there is no risk from writing the call. The obligation of
writing the call is offset by owning the stock. For example, if you
own 100 shares of Pfizer priced at 40 and write the Pfizer Jan 45
call at 2, you receive $200 to your account but are obligated if
Pfizer is above 45 and you are exercised to deliver the stock at 45.
Covered call writing is ideal when you have a target where
you wish to sell the stock. Then you are getting paid as you wait
for the stock to hit your target. In our Pfizer example, if your target
for Pfizer was 45, you receive $200 as you wait for the stock
to exceed 45. If the stock does not get to 45, you can write another
option with a strike price of 45 and collect more premium
as you wait. If the stock is called away at 45, you receive 45+2 or
$47 a share.
When you don’t want to sell the stock, follow the guidelines
that we presented in the previous chapters. Only write an out-ofthe-
money option with a high probability of expiring, set a stoploss
and buy back the option if the stop is hit. Then you can roll
into a new option writing position, further out-of-the-money if
you desire.
Your danger here is that the stock could gap up over the
strike price, and you could take a bath buying back those options.
Always close out all positions when most of the premium vanishes.
Avoid covered call writing on a stock in a strong up-trend
unless you believe it is making a top, and then it may be wiser to
sell the stock than to write calls on the stock.