What to Do before You Write a Call - dummies

What to Do before You Write a Call

When you write calls, think of your stock and your option as two different parts of one single position. Each part has its own role to play and is dependent on the other to perform a complete job for your portfolio. Each part also has its own cost, so you need to know the price of the stock when you bought it and add in the price of the premium that you gain when you sell the call.

Before you write a call, figure out how much you get from the strike price and the premium if the call option is exercised against you. Always know your worst-case scenario before you hit the trade button. Here are some additional tips to keep in mind about writing calls:

  • A low volatility stock is perfect for call option writing.

  • Writing in-the-money options generally lets you collect a better premium than writing out-of-the-money options; however, the profit potential is greater when you write out-of-the-money call options.

  • For the covered-call strategy to work best, try to execute the trades — buy the stock and write the call option — at the same time by establishing a net position in which your goal is to achieve your net price, or the price you set as your investment goal for the order. You can establish a net position by placing a contingent order with your broker, which stipulates how you want the order executed.

  • Contingent orders — also referred to as net orders — are not guaranteed by the broker. They’re also referred to as not-held orders, because if the broker thinks the order is too difficult to fill, you’ll receive a “nothing done” report, and the order won’t be filled.

  • If you’re unwilling to sell the stock against which you’re writing the covered call, you shouldn’t even consider writing the option. You’ll probably get hurt if someone exercises a call against you.

  • If you change your mind after selling an option, you can buy it back in the marketplace. The buyer can also sell his options to the marketplace. This rule applies to both puts and calls.