A covered call is an options position in which you own 100 shares of a stock and sell one call option against them, usually at a strike above the current price. The premium is yours to keep whatever happens, in exchange for agreeing to sell the shares at the strike if the stock finishes above it.
How it works
The call is "covered" because the shares you own can be delivered if the call is exercised, so there is no open-ended loss on the option. If the stock stays below the strike at expiry, the call expires worthless and you keep both the shares and the premium. If it finishes above the strike, the shares are sold at the strike.
Per share, with stock price S, call strike K and call premium C (one contract covers 100 shares):
| Measure | Formula |
|---|---|
| Max profit | K − S + C |
| Breakeven | S − C |
| Max loss | S − C (if the stock goes to zero) |
| Return if unchanged | C ÷ S |
| Return if called away | (K − S + C) ÷ S |
At expiry, a covered call has the same payoff shape as a short put at the same strike, a result of put-call parity, which is why it is compared with the cash-secured put. The position earns from time decay (positive theta) and loses some value when implied volatility rises (negative vega); its delta is lower than owning the shares alone. See options Greeks.
How to read it
- Strike choice. A call near 30 delta is a common middle ground. A higher strike, at a lower delta, collects less but leaves more room for the stock to rise; a strike near the money collects more but caps gains almost immediately.
- Expiry. Many traders sell 30 to 45 days out, where time decay is meaningful but there is still premium to collect. Very short expiries pay little per trade and require frequent decisions.
- Volatility. Premiums are richer when implied volatility is high relative to how much the stock has actually moved, but high IV usually reflects a real risk of large moves.
- Events. An earnings report before expiry raises the premium and the chance of a gap in either direction.
- Your view. The strategy suits a stock you are content to hold but do not expect to rally sharply before expiry.
Worked example
Illustrative numbers only, not a recommendation. You own 100 shares bought at $50, now trading at $50. You sell the $55 call expiring in 35 days for $1.00, collecting $100.
- Max profit: (55 − 50 + 1.00) × 100 = $600, reached at $55 or above.
- Breakeven: 50 − 1.00 = $49.
- Stock unchanged at $50: you keep $100, a 2% return in 35 days before costs.
- Stock at $60: the shares are called away at $55, a $600 gain, compared with $1,000 for holding the shares alone.
- Stock at $45: the call expires worthless and the position is down (50 − 45 − 1.00) × 100 = $400, compared with $500 for the shares alone.
The premium improves the outcome slightly in flat and falling markets and gives up the upside above $55 in a strong rally.
Assignment and early exercise
- Options on US stocks are American-style, so a short call can be assigned at any time, most often when it is deep in the money with little time value left.
- The risk is highest just before an ex-dividend date: if the dividend exceeds the call's remaining time value, the holder may exercise to collect it, and you lose both the shares and the dividend.
- If the call is in the money at expiry, expect the shares to be sold at the strike. To keep them, you must buy back or roll the call before expiry, usually at a loss on the option.
- Selling a call below what you paid for the shares can lock in a loss if they are called away.
Limitations and common mistakes
- The downside is the stock's. The premium is a small cushion. A 20% decline is still close to a 20% loss.
- The upside is capped. Over long periods, repeatedly capping the best months can cost more than the premiums collected.
- Chasing yield. A high premium on a volatile stock is compensation for risk, not free income.
- Taxes and costs. Assignment is a sale of the shares, which may be a taxable event depending on your country; commissions and bid/ask spreads add up.
For a repeating version that starts with a short put, see the wheel strategy.
In Clear Tape
Pro members can build a covered call on any stock in the Options strategies section of the Options page. It assumes 100 shares bought at the current price and sells the call nearest 30 delta in the expiry closest to 35 days; expiry, strike and delta can all be changed. The build shows the legs with their quotes, the credit at mid and at natural prices, max profit, max loss, breakeven, chance of profit, capital at risk, return and its annualized figure, checks such as earnings before expiry, a payoff chart with Today and In N days lines, and the position's Greeks. Each strategy is rated for fit; for the covered call, rich options rate it a good fit and cheap options a poor one. No orders are placed, and data reflects the previous session's close. See pricing.
For educational purposes only. Not investment advice.