A few questions about selling covered calls?

Question

what are the risks associated with the covered call? is there any more risk here than just plain owning the stock? I understand the reward is limited, but is there any additional risk here?

How far in the future to go for the expiration date? 1 month? Wouldn't a closer month be better because you can collect the options premium, then do it all over again in a short period of time?

In the money vs out of the money, can I do either? Which is better and why?


Please specifically answer those questions only, I don't need a 20 page essay pasted from another website. These are the only answers I need.

Thank you so much in advance!

Answer 1

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(1) Monetary risk = price paid for the stock less the remium received for the option.

(2) Opportunity risk = The maximum reward is limited, as you indicated.

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There is less monetary risk.

If you want to close the position early it is more complicated and possible that you have a larger loss, though normallyyou would have a larger profit.

<<< I understand the reward is limited, but is there any additional risk here?>>>

Just what has already been mentioned.

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Usually shorter time periods are better in order to maximize time decay. However if you pay US taxes there can be a disadvantage to selling withing 30 days of expiration because that will require you to treat the two positions as a straddle for tax purposes.

You may also want to use a longer time frame if premiums are unusually large for some reason. (In optionese that means that implied volatility is high.) If your sell a short term call but implied volatility has gone down you may not be able to get as large a premium if you want to sell a new call.

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Yes.

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Neither is better per se.

In the money calls gives you more protection agains a drop in the price of the stock, but reduces the maximum profit you can make.

At the money calls offer you the most extrinsic premium (time premium) so they are most profitable is the stock price stays steady.

Out of the money calls offer you more potenial profit but offer less protection against a drop in the stock price.

Deep in the money covered calls calls invoke the IRS straddle rules.

Any in the money covered call can have an impact on the holding period for the stock.

Answer 2

I am selling covered calls and prefer 1 to 2 month expirations.

If you are looking for downside protection, in the money is better, closer to locking a profit. However, hard to find good time premium.

Out of the money gives more upside / less down side, opportunity to resell option.

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