Make money by selling call options

  • By Carole Ann Furman

  • June 21, 2018
  • 1:31 am BST

There are many CFD strategies that have been tried and tested by stock market gurus, each with their own benefits and risks. Once you have mastered these trading tips, you can apply them to options as well, because they are more similar to CFDs than most other instruments.

In particular, selling call options is an investment strategy that’s likely to amplify your returns. Detractors point to the fact that you are limiting your upside and taking away the flexibility of being able to sell when it pleases you. While these are valid concerns, the main mitigating factor is this: selling call options against stocks that you already hold is guaranteed cash, immediately.

Selling call options – the benefits

 The advantages do not end there:

  • Risk is perpetually reduced by the number of premiums coming in
  • These new funds collected up front can then be reinvested in more of the stock used to support the covered write, or other promising prospects
  • Covered writing within retirement accounts presents a backdoor channel to inject those accounts with more money than would normally be the case due to annual contribution limits. Because incoming premiums are considered investment income, they have no effect on how much you can deposit per annum
  • As the size of your account grows, the funds received from covered writing can gather nicely

Selling call options – the drawbacks

 Of course, no plan is absolutely perfect or without its downsides. There is a sum total of two disadvantages to selling call options worthy of note:

  1. When you sell, you set a maximum limit which cannot be surpassed without buying the option back.
  2. You can’t sell underlying shares before the option’s expiration date unless you buy to close.

These drawbacks exist, but you are certainly not cornered or locked in.

If market sentiment turns for the worse and the underlying shares stop being attractive, you have at least already collected a premium that cushioned the blow by the per-share amount collected initially. If you want to exit early, all you have to do is buy back the calls in a closing transaction at a profit, before exiting the position.

Call writing – the key rule

 So, when it comes to an IRA or any other account, what is the fundamental rule to adhere to? The important thing is to only sell calls at a price point where parting with your shares would still make sense, and not leave you dissatisfied.

The effect of what you’re trying to do is to have a price equal to the strike price selected, and add on any per share premium received.

For example, if you sell a nine-month $60 call on a $51.50 share for $4, your ‘called away’ sales price would be $64, if you exercise it later. This yields more than a 24% positive movement from the start of trading on this call.

Yes, the stock could ultimately gain more than 24%. But would it really have been a disaster to ‘only’ make 24% on that stock? In most cases, no.

The take-home

 Covered call writing is one of those trading strategies that you must have saved and at least resorted to now and then in your big picture investment plan. When you can call in cash on demand, it significantly lowers risk and allows you to purchase more shares – such as the hot pick of stocks you’ll want to own – not with your own cash, but with the cash of others. That’s a big double win as far as investing goes. It is no small wonder then that some pros will happily attest to selling call options as their go-to default more often than not.