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Covered
Calls
Function:
Hedging
Outlook:
Neutral/Pessimistic
When
you own stock and you write (sell) call
options against said stock, the calls are said to be
"covered calls." They are covered because if you person
who you sold to exercises the calls, you already own the stock that
you have promised to sell.
Selling
covered calls is a way to make an additional profit on the stock
your currently own. For example, assume you own 1,000 shares
of Cisco (CSCO) which trade for $25, and one-month calls with a strike price
of $27 currently trade for $.30. You can write options against
your 1,000 shares and receive $300 ($.30 x 1,000). If the
stock is below $27 on the day of expiration, the options expire
worthless and you get to keep the $300 and your stock. If the
stock is above $27, you get to keep the $300 but you will have to
sell your stock for $27 per share, no matter where the stock is
above $27 (even if it goes to $100, you sell at $27).
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