There are a number of advantages of implementing the covered call strategies to generate income. First, it is simple and quick to put this strategy into operation. The strategy is simple to track and understand, and generates unbelievable earnings. It is also a very conservative way in which people can safeguard their portfolios against market fluctuations.
This strategy can create a variety of likely profits for the person who already has stocks. It is not a good idea to buy stocks for the sole purpose of implementing this strategy because there are strategies available that are more helpful. On the other hand, if a person already has a portfolio, this is a good strategy to use to increase cash flow and decrease investment risks.
Any type of investment can be a risk for people who are not knowledgeable about stocks and options. Investing should not be scary, rather it should be respected. When an individual has a good understanding of investments, they will be able to generate a profit.
Investors who know their way around stocks and options, who are serious about producing wealth, apply different strategies. They will sell the options on the stocks they already own to generate additional income. This method is much like renting the stock shares like renting out property. Purchasing investment property to rent out is how some people generate earnings.
How this plan works is that the owner of a certain amount of stocks will sell options valued the same as the stock. A premium is received by the seller which is considered cash flow. In short, the investor agrees to sell his or her stock by an expiration date for the option, for a particular price.
Although this strategy still carries a potential risk if stock prices fall, it is lowered by the income received from selling the call. For that reason it is considered more of a cautious strategy than just owning stocks. However, the earnings cannot be more than the increase in capital in the stocks up to the call option strike combined with the income of the sold calls.
It should be noted that when anything increases more than the option strike, a buyer can exercise their option and the seller must sell the stocks at the cost of the option strike. What this means, is that any call option that increases by the date of expiration is purchased for the amount of the option not the amount of the increase in value. On the other hand, if stock prices fall the person can recoup some loss from the income of sold options.
The ultimate goal of investors with portfolios is to generate cash flow to eventually be self sufficient. Covered call strategies are a conservative way to generate income. When the individual who already has a stock portfolio and is experienced and well educated in stocks and options, they will be able to use this strategy to their advantage.
Source: Tim Leary