Following Up after Writing a Call in an Options Trade - dummies

Following Up after Writing a Call in an Options Trade

Your job as an options trader starts when you make the transaction. The heavy lifting is what lies ahead, during the follow-up — managing the position, which is more difficult in some ways than opening the position. There are two important factors in managing the position:

  • What to do if a stock rises after you’ve written a covered call

  • What to do as the covered call approaches expiration

When the stock rises: Rolling up

If your stock goes up, you can just let the buyer have it at the higher price. You made your premium, and you sold your stock at a price that you were comfortable with. If you want to be aggressive, you can buy back your option and roll up, or write another call at a higher strike price. When you do, though, you incur a debit in your trade, because you have to put up more money into the account.

Rolling up can be risky, because you can end up with a loss.

When the option’s expiration time nears: Rolling forward

Rolling forward is what you may want to do as your option’s expiration time nears. When you roll forward, you buy back your option and sell a new one with a longer term but the same strike price. Although you could let the stock be called away, if your stock has low volatility and your option strategy has been working for you, rolling forward usually is best. How you make your decision is based on your projected costs of commissions and fees, and what your break-even point will be for the position.

If you’re writing calls, make sure you’re willing to let the underlying stock get called away. Otherwise, you’re likely to become sorry at some point. If the position is going against you and you keep rolling up and forward, you’re probably only making matters worse.

At some point, you will hit the panic button and buy back your calls at a loss. You’ll probably start selling put options to generate some credits, but you’ll also end up placing yourself in a position that can wipe out your whole account.