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COVERED CALL

Core Concept: Selling call options against owned stock generates income but caps upside at the strike price.

Why It Matters​

Covered calls are the safest options strategy (fully collateralized). Popular for income generation but can cause opportunity loss if stock rallies.

When to Use​

✅ Use covered calls when:

  • Own stock, neutral to slightly bullish
  • Want 1-3% monthly income
  • Willing to sell stock at strike
  • IV rank >50% (expensive premium)

❌ Avoid when:

  • Expecting major rally
  • IV rank < 25% (low premium)
  • Stock approaching earnings (assignment risk)
  • Emotionally attached to shares

Strategy Mechanics​

Setup: Own 100 shares, sell 1 call (usually OTM)
Max profit: Strike - stock cost + premium
Max loss: Stock to $0 (minus premium collected)
Breakeven: Stock cost - premium

Typical structure: Sell 2-5% OTM, 30-45 DTE

Trade-offs​

Pros: Income generation, reduces cost basis, defined risk (own stock anyway)
Cons: Caps upside, stock can be called away, taxable events

Covered calls combine options_basics selling with options_greeks theta collection.

Quick Reference​

Position Greeks (per contract):

  • Delta: ~-0.30 (slightly reduces upside)
  • Gamma: Negative (delta increases against you if stock rises)
  • Theta: Positive (collect ~$10-30/day)
  • Vega: Negative (profit from IV drop)

Strike selection guide:

StrikePremiumProbability CalledUse Case
ATMHigh50%Max income, willing to sell
2% OTMMedium30%Balanced approach
5% OTMLow15%Keep shares, some income

Rolling mechanics: If stock approaches strike (don't want assignment):

  1. Buy back current call
  2. Sell further OTM or later expiration
  3. Net credit or small debit to keep stock

Examples​

EXAMPLE

Basic covered call income:

Own: 100 AAPL shares at $180
Sell: 185 Call, 45 DTE, collect $3.00 premium
Income: $300 (1.7% return in 45 days = ~14% annualized)

Scenario 1: Stock stays below $185

  • Keep stock + $300 premium
  • Repeat next month

Scenario 2: Stock at $190 (above strike)

  • Shares called away at $185
  • Total profit: $5 stock gain + $3 premium = $8/share
  • Left $5 on table but still 4.4% return

Scenario 3: Stock drops to $170

  • Keep stock + $300 premium
  • Paper loss: $1,000, offset by $300 = $700 net
  • Premium cushions downside slightly

Rolling to avoid assignment:

Own: AAPL at $180
Sold: 185 Call, 15 DTE, now worth $4.00 (stock at $186)

Don't want to sell:

  • Buy back 185 Call for $4.00 (loss $1.00)
  • Sell 190 Call, 45 DTE for $3.50
  • Net debit: $0.50 ($50)
  • Result: Keep shares, higher strike, more time

Comparison: Hold vs Covered Call:

Year 1 - Stock sideways at $100:

  • Hold: 0% return
  • Covered calls (12 months): ~12-15% from premiums

Year 2 - Stock rallies to $140 (+40%):

  • Hold: 40% gain
  • Covered calls: Called at $105 multiple times, maybe 15% total

Covered calls: Better in flat/slow markets, worse in strong rallies.

Tax consideration:

Own: Stock bought at $100, now $150 (long-term gain)
Sell: 155 Call

If assigned:

  • Sell at $155 + premium
  • Triggers capital gains tax on $55/share
  • May prefer to roll than realize gains

Wheel strategy integration:

Month 1: Sell cash-secured put at $95 (collect premium)
Assigned: Now own stock at $95
Month 2-6: Sell covered calls at $100 (collect premium)
Called away: Sell stock at $100
Repeat: Sell put again

Continuous premium collection by cycling between puts and calls. ```

References​