How to Make Money Selling Call Options

Selling calls can be a profitable strategy - but do your homework first.

Selling or "writing" call options is a potentially profitable strategy that can be pursued with minimal upfront investment. The options market is complex, however, and preparation and research are necessary. There are two basic approaches to writing calls: "naked" and "covered" selling. One is high-risk, the other is conservative. In fact, it is safer than simply buying shares of stock. Which strategy you choose depends on your tolerance for risk and your ability to absorb financial losses in the short term.

Instructions

1. Research common stocks which have options available. Option tables can be found in financial newspapers and on stock market websites.

2. Make a short list of stocks you believe have good reason to fall in price over the next few months. The stock price may be in a downtrend, the company may have stagnant or falling earnings, or the entire sector may have a negative outlook.

3. Using the options tables, research options tied to these stocks, noting the price of call (not put) options only. A call option is a contract to buy 100 shares of the stock at a price (the strike price), on a certain date (the third Friday of the month listed). A Microsoft November 25 call, for example, gives the holder the right to buy 100 shares of Microsoft stock at $25 per share by the third Friday of November.

4. Enter an order to sell the call option. The listed price of the option is multiplied by 100, since the option represents 100 shares of stock. When you sell a single option listed at $1.00, for example, you actually collect a premium of $100.00, less any broker fees.

5. You now have an open short position in the call option. If you don't own the underlying stock, you have a "naked" call. This is a high-risk strategy. If the stock price drops and the call falls in value, you keep the premium you collected. If the stock rises, however, and the call does as well, you will risk a potentially unlimited loss. Protect yourself by placing a stop-loss order at a price above the current price of the option. If the call rises in value, and you begin to lose money, the stop-loss will be triggered and your position will be closed out.

6. An alternative and more conservative strategy is to sell "covered" calls. These are calls on stock you aown. You must buy 100 shares of the stock to sell one covered call on that stock. If the stock rises in value past the "strike price" of the option you sold, you must sell the stock at that strike price. You lose any gain past that price, but you will collect the option premium as well as proceeds from the stock sale.

7. If your covered call expires without the stock reaching your strike price, you can simply sell another call option and collect another premium.

Tips & Warnings

• Spend some time familiarizing yourself with options prices, and how they move with the price of the stock they represent. Options are volatile instruments, and some move faster and farther than others. High-premium options are your targets, as they allow you to collect more money by selling them.

• Don't trade options with money you can't afford to lose. Stocks and options are for risk capital only.

• Don't trade naked calls without a stop-loss. A single news event quite outside of your control can drive a stock price into the heavens and wipe out your trading account in an instant.

References

• Power Options: Selling Naked Calls and Puts
• Investopedia: Buy-Writes