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Writing Call Options on Owned Stock

By on February 12, 2013

In this article, we will cover everything you need to know to start increasing your returns on stocks that are not currently moving by writing call options on them.

Introduction

In our first post we covered options from the perspective of a call buyer, on this post we will take a slightly different approach. Lets say you bought some stock and it performed really well during the year but now all of a sudden the stock is just stuck within a price range. You like this stock and

you think it still has upside potential but you don’t see it going up much further in the short term and its tying up capital. You don’t want to sell this stock because you’re afraid you might miss out on the next up move.

So what do you do ?

One thing you can do is write a monthly call option with a strike price near the high part of the range in order to collect the premium and get at least some performance out of the stock while its stuck within that range.

Writing call options

When writing a call option on a security you own you should consider the time period for which you think the stock will hold below a certain level. For example, lets sat that XYZ is trading at $100 a share and you don’t expect it to go past $120 within the next month. What you would do is you would write a call for next month (December 15, 2012 assuming today’s date) with a strike price of $120. In return for writing that call you would collect a small premium. Assuming you collect $10 from writing that call that equals a total of $1000 collected ($10 x 100 shares) or a 10% return on the value of your shares. One downside to this strategy is that if the stock does suddenly start to move up and you don’t buy back the call you sold then you will miss out on profiting from your shares past the $120 mark.

Conclusion

Writing calls on stocks that aren’t moving could allow you to squeeze a little performance out of them but this strategy must be properly timed out in order to reach its full potential. It is important to remember that you must own the stock you wrote the call to for all of the duration of the contract else you will end up writing a naked call which exposes you to unlimited risk. Be sure to only write calls on investments you feel will stay within a certain range, you don’t want to be put into a position where you watch the price quickly appreciate while knowing that you won’t benefit past a certain point.

This article originally published at The Street Options here

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