Covered calls

What it is

A covered call means you own at least 100 shares of a stock and sell one call option per 100 shares. You collect the call premium immediately. In exchange, you agree to sell your shares at the call's strike price if the stock rises above it before expiry.

How the math works

Your static return is the premium divided by your cost basis or the current stock price. If you paid $45 per share and collect a $1.20 premium on a 21-day call, your static return is 2.67% in 21 days. Your downside breakeven drops to $43.80, you are protected down to that level.

If called away (stock closes above the strike), your total gain is the appreciation from cost basis to the strike, plus the premium. If not called away, you keep the shares and the full premium, and can sell another call.

Strike selection

A higher strike gives you more upside participation if the stock runs but less premium. A lower strike gives more income but caps your gain sooner. Many traders sell the first out-of-the-money strike, balancing income with the chance of the trade being called away.

Tax note

Selling covered calls on stock you have held less than a year can reset or disqualify the long-term capital gains holding period on those shares. Consult a tax professional before selling covered calls on appreciated stock you plan to hold long-term.