Download - Free guide - Using covered calls could help generate income from your existing shares.

EXCHANGE TRADED OPTIONSPart 3: Covered Calls

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Covered Calls1

Covered Calls are an options strategy that can be used to generate cash using the collateral value of the shares in a portfolio.



Covered Calls2

A covered call strategy involved selling calloptions to open the trade.



Covered Calls3

Call options are sold above or at the shareprice in the view that the share price willgo sideways to bullish.



Covered Calls4

Call buyers have the right to buy theunderlying stock.



Covered Calls5

A call seller will receive a credit to entera contract with the buyer



Covered Calls6

They will be ensuring the buyer that they willsell stock to them at the strike price of thecontract.



Profiting from Covered Calls7

To profit we set the strike higher than the price paid for the stock, as well as the current share price.

Calls Strike Price

Current Share Price

Price paid for stock




As a result, if the option is exercised, you willsell your stock for a profit, plus you keepthe credit received to enter the contract.




If the share price goes sideways and isbelow the call strike on expiry, the optionexpires worthless.



But you keep the credit that you received by opening the contract.

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An example Covered Call11

It is May and we own 1,000 XYZ shares that we bought at $35.10.




The share price is trading at $36.00 so we decide to sell to open a call option with a strike of 36.50 in June for .60c Credit per option.




XYZ Share Buy Price 35.10

Sell to open 36.50 June Call for .60c CR

XYZ current share price 36.00As we own 1,000 Shares, we can sell 1,000 call options or 10 contracts using 100% of the collateral value of the shares.

This will create a credit of $600.



Scenario One - The Share Price Falls14

The share price falls and is trading at 34.90 on June expiry. The options will expire worthless.



Scenario One - The Share Price Falls15

In this situation, you keep the $600 but the XYZ shares have lost .20c of value or $200 so you profit $400 even though the share price has fallen.



Scenario Two - The Share Price Rises16

The Share price rises to $37.00 on June expiry. We get exercised on the option so we will sell the stock at 36.50.



Scenario Two - The Share Price Rises

We will make $1.40 on the stock or $1,400; we also keep the credit from the call option we sold of $600. This equates to be a $2,000 profit for the month.

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Scenario Three - The Share Price Falls

The share price falls and is trading at 34.00 on June expiry. The options will expire worthless and we keep the $600 but our XYZ shares have lost 1.20 of value or $1,200.

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Risks of Covered Calls19

The risk is the same as holding the shares, as if the share price falls then the value of the shares will go down.




The credit from the options will help reduce the loss compared to just holding the shares.



Risks of Covered Calls

There are many different ways of managing and timing the entry of a covered call,which will yield different results.

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You need to be prepared to sell the stock if needed for this trade to work.




Covered calls can only be made on a stock that has exchange traded options.



Conclusion24

Portfolio returns do not have to rely on market movements to profit.



Conclusion

Investors can still achieve strong returns, even when markets are flat by selling call options against stock holdings.

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32Warnings and important information.Any advice contained in this communication is general only and does not consider your objectives, financial situation or needs, and you should consider whether it’s appropriate for you. If you are thinking about acquiring a financial product, you should consider our Financial Services Guide (FSG) at www.traderscircle.com.au and the relevant Product Disclosure Statement (if there is one available) first.

Trading options is not suitable for everyone. There is a risk that you can lose more than the value of a trade or its underlying assets. You should only act on our recommendations if you are confident that you fully understand what you are doing.

Past returns do not reflect future returns, and it is also possible to make significant losses. We employ expert traders and use strategies that maximise returns and minimise risk. However, there is always a risk of loss when trading and investing. This is general information, and is not prepared for your specific investment objectives, financial situation or needs. Consult a licensed investment adviser before making investment decisions. TradersCircle Pty Ltd, ABN 65 120 660 497 is a corporate authorised representative of OzFinancial Pty Ltd, AFSL number 241041.