How to Profit from Writing Covered Calls

Writing covered calls is a way of earning extra income from stocks you already own. Calls are stock options which give someone the right to buy your stock at a certain price, for a certain length of time.

A typical strategy for writing covered calls is to "write" or sell a call option above the current stock price. For example, for 50 cents you might sell someone the right to buy your stock for $25 within the next three months, even though the stock is only worth $20 today. It's named a "covered" call option when you actually own the stock.

If the stock doesn't reach $25, the option expires worthless, and you get to keep the money you received from writing the covered call, and can write another call if you want. If the stock does rise above that price, you may be required to sell the stock for $25, but you'll get to keep the $5 profit from the rise in the stock price as well as the 50 cents you received for writing the call.

Covered call strategies work best in a neutral, slightly bullish or bear market. Ideally, you'd be planning to hold the stock for the long term even if it fell, but sell if it rose above a certain point.

Difficulty: Moderate

Instructions

1. Look up what calls are selling for, on the stocks you own. Your broker may already offer real-time option quotes. Free delayed option quotes are available at many sites online, such as www.cboe.com. Call options are usually quoted per share, but like stocks, they usually sell in 100-share lots.

2. Compare the prices you could get for writing covered calls for different time periods and stock prices. The higher the stock price and the shorter the time, the less you'll receive. But a higher stock price means there's more chance the call will expire without your needing to sell the stock, and the less time left means the more calls you'll be able to write in a year. Covered call strategies depend on choosing the stock price and duration that seem the most profitable. Also keep in mind brokerage fees. You may want to use a discount brokerage to keep costs to a minimum

3. Place an order to sell the same number of calls as the number of shares of stock you want to use for writing covered calls.

4. Watch the price of the stock and the calls. If the stock rises and the calls are exercised, you'll be notified by your broker if you need to sell the stock. Otherwise, when the calls expire, you can repeat the process. If the calls fall in value before they expire, you can also purchase them back for less than you sold them for and make a profit, and then sell different calls, if that's part of your covered call strategy.

Tips & Warnings

• Remember to figure brokerage costs and taxes, when calculating potential profit.

Resources

• Chicago Board Options Exchange website