As a very conservative options player in the market, the strategy that I love best is the covered call strategy. The covered call strategy on stocks has proven itself to be a profitable and consistent strategy with very limited risk involved. for conservative investors like me, I am sure you will find this strategy rewarding as well.

This strategy is definitely not for people who wants to hit the home run. It is not a get rich quick method of playing options. Options itself is risky or very risky if you do not know the rules of getting involved in them. Imagine if you could get between 4% to 10% every month with very limited risk on a consistent basis, would that appeal to you? If you are keen, please read on. else the rest of this document would not be suitable for you and I apologise for wasting your time till now.

What exactly is covered call then?

Covered call involves owning an underlying stock first and the selling a call option against the stock that you own.

So how do you actually gain from this strategy then?

As we know, stock options expire on the 3rd friday of every month. By selling a call option against the stock that you already own, you will make money if the stock advances in price, stay constant in price or drops slightly in price. However, you must be prepared not to be able to participate in any additional upward advancement of the stock in this case as your profit is locked in this case.

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So what happens if the stock drops in price?

In covered call writing, there is always this thing called the stock repair strategy. If the stock really comes down gradually in price, we can always do a rolling down or out to rectify the situation. The only time you really lose from this strategy is when the company of the stock you are holding turns bankrupt and closes down. Of course, we have our way to minimise this possibility to a real minimum or close to impossible.

Whats the secret in covered call then?

Frankly speaking, it is a real simple strategy. In the previous section on stock options basic, we covered that part. However, the real key thing in covered call writing is selecting options with a high time decay value. Option value decays exponentially with time. We have to recognise that and leverage on that aspect. Many option writers fail to realise that and commit serious mistakes when writing covered calls. with a high time decay value, the profit and downside protection for the stock also increases.

What to do during expiration date?

This is a question that many option writers always ask. Three things can happen on expiration date. The stock can go higher, stay constant, or drop in price. If the stock goes higher in price, you will not be able participate in the upside rally as your profit is already locked in. You can either do nothing and let your call get excerised or buy back the more expensive call that you sold earlier. For people who wants to hold the stock because they love the stock so much and can't bear to part with the stock, they are the ones who will often go for the second method: buying back the call and selling the next month options. This is also what we call roll up and out. Rolling up refers to selling another option with a higher strike price and rolling out means selling options in the further months. If the stock stays constant in price, thats the best because the option that you sold will become worthless now. However, if the stock price were to come down, the option that you sold will also become worthless. So you will now do a roll down for the next month. having said all these, I think it will be better to use some examples to support those scenarios mentioned above.

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What stocks to choose?

This is pretty common question that I always get. For me, I am a very conservative player. I will only select stocks from the S&P 100 or the NASDAQ 100 list as they are among the most safest stocks on Earth! I stay away from other stocks even if their premium is very attractive. So these 2 lists will be my potential candidates for covered call writings.

What to look out for in a stock?

1) Go to Morningstar website.
---->O.K. to buy if Financial Health Grade = A, B or C
---->O.K. to buy if Growth Grade = “A” or “B”
---->O.K. to buy if Profitability Grade = “A” or “B” or "C"

2) Go to moneycentral website.
---->O.K. to buy if StockScouter rating = 7, 8, 9 or 10.

3) Go to reuters website.
---->O.K. to buy if average volume of stock >300 000.
---->O.K. to buy if institutions own at least 30% of shares outstanding.
---->Check out the financial highlights of the stock (Growth rates, revenue, earning per share). Make sure the figures look healthy to you.

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