Protecting Your Portfolio With Covered Calls

Thu, Nov 25, 2010

Financial Advice, Investment

I last discussed protecting your stock portfolio with married puts, and now we’ll explore protection via covered calls. Covered calls are when you sell a call option against a stock you own. This defensive move is not as secure as a married put, but instead of paying for the put — you make money on the call. Furthermore, a covered call position gives away a lot of the upside, whereas a married put does not. Say you own stock in ABC and it is trading at 30. You are nervous about holding your ABC shares fearing it might decline. Married puts would entail you buying a put — say with a 25 strike price — on ABC. Consequently, you are only exposed to loss down to 25, and any further loss is covered with the put. This ensures you can’t lose more than 5 dollars from its current price. Alternatively, if you desired to sell a covered call, you would sell a 35 strike call on ABC.

This means you are giving away all upside over 35 — should the stock go up. However, if you collected $3 by selling the call, this means that you are protected against the first three dollars of decline. Any further decline would fully felt versus a married put which entails no further risk — even if the stock goes to zero. These concepts might seem complex at first blush, however, with a little research you can understand them in no time. There are a plethora of reputable and free sources of information about defensive stock option strategies online — researching this technique can end up saving you a large part of your retirement funds.

James

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One Response to “Protecting Your Portfolio With Covered Calls”

  1. Nice post- this one may be also interessant for you Says:

    Great website. Plenty of useful information here. I’m sending it to some pals ans also sharing in delicious. And of course, thanks for your sweat!

    Reply

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