A covered call is a strategy that combines at least 100 owned shares of a stock or ETF with one short call contract. This guide was updated on. To sell one, choose an acceptable strike price and expiration date, then place a Sell to Open order. You receive the option premium, but you may have to sell 100 shares at the strike price if the option is assigned. A standard equity option generally represents 100 shares.
A covered call usually suits an investor who is neutral to moderately bullish and would be comfortable selling the shares at the chosen strike price. It may be a poor fit if you expect a sharp rally or would strongly regret losing the stock.
Covered Calls at a Glance
| Feature | How it works |
|---|---|
| Position | Long 100 shares and short 1 call |
| Order type | Sell to Open |
| Income | The option premium received |
| Maximum gain | Stock gain up to the strike price plus the premium |
| Downside protection | Limited to the premium received |
| Assignment obligation | Sell 100 shares at the strike price |
| Main risk | The stock falls, or the stock rises sharply and your upside is capped |
| Best outlook | Neutral, slightly bullish, or willing to sell |
1. Own Enough Shares to Cover the Call
One standard equity call generally covers 100 shares:
- 100 shares support 1 covered call
- 300 shares support up to 3 covered calls
- 500 shares support up to 5 covered calls
Do not sell more call contracts than your share position covers. Selling a call without enough shares creates an uncovered or naked call, which has substantially different and potentially greater risk.
Your brokerage account must also be approved for options trading. Each brokerage sets its own approval levels and may require you to review the options disclosure document before trading.
2. Choose a Stock You Are Willing to Sell
Before choosing an option, decide whether you would accept selling your shares at the strike price.
Suppose you own 100 shares of XYZ at $50 per share. You might sell a call with a $55 strike price. If XYZ rises above $55 and the call is assigned, you will generally sell the shares for $55 each, even if the stock trades much higher.
The premium increases your effective sale proceeds. A $55 strike with a $1.20 premium creates an effective sale price of $56.20 per share before transaction costs and taxes.
Ask yourself:
Would I be satisfied selling this stock at the strike price plus the premium?
If the answer is no, do not sell that call.
3. Select the Strike Price
The strike price is the price at which you may have to sell the shares.
Out-of-the-Money Call
An out-of-the-money call has a strike price above the current stock price.
Example:
- Stock price: $50
- Call strike: $55
The higher strike gives the stock more room to rise before assignment becomes a possibility. The trade-off is that the premium is usually lower than the premium for a call with a strike closer to the current share price.
At-the-Money Call
An at-the-money call has a strike price near the current stock price.
Example:
- Stock price: $50
- Call strike: $50
This usually produces more premium than a higher strike, but the stock has less room to appreciate before assignment becomes a possibility.
In-the-Money Call
An in-the-money call has a strike price below the current stock price.
Example:
- Stock price: $50
- Call strike: $45
An in-the-money call can produce a larger total premium because it includes intrinsic value. In exchange, it leaves less room for further stock gains and may carry a higher assignment risk.
Option premiums are affected by the stock price relative to the strike, the time remaining until expiration and expected volatility.
4. Select the Expiration Date
Choose an expiration date that fits your holding plan.
A shorter-dated call gives you a sooner decision point. If the call expires worthless, you keep the shares and can sell another call. A longer-dated call may provide more premium upfront, but it limits your upside for a longer period.
Do not choose an expiration date only because it offers the highest premium. That premium may come with a lower strike price, a greater assignment risk or a longer restriction on your shares.
5. Review the Premium and Break-Even Price
Option premiums are quoted on a per-share basis. A quoted premium of $1.20 normally means:
- $1.20 per share
- $120 for one standard contract
- $120 received before fees and taxes
The premium lowers your effective stock cost, but it does not remove the risk of a stock decline.
If you bought the stock at $50 and receive a $1.20 premium:
- Effective break-even price: $48.80
- Premium received: $120
- Shares covered: 100
The calculation is:
Stock purchase price - call premium
$50.00 - $1.20 = $48.80
6. Place a "Sell to Open" Order
The exact layout depends on your brokerage, but the process usually looks like this:
- Open the options trading screen for the stock.
- Select the call with the desired strike and expiration.
- Choose Sell to Open.
- Enter the number of contracts.
- Review the premium, bid-ask spread and estimated proceeds.
- Submit the order. Use a limit price if you want to control the minimum premium accepted.
- Confirm that the position appears as a short call against your shares.
Selling to open creates an obligation. You are not selling an option you already own. If the option holder exercises the call and you are assigned, you must deliver the shares at the strike price.
Covered Call Example
Assume:
- You own 100 shares of XYZ purchased at $50
- You sell 1 XYZ $55 call
- You receive a $1.20 premium
If XYZ Stays Below $55 at Expiration
The call may expire worthless. You keep:
- The 100 shares
- The $120 premium
You can continue holding the stock or sell another covered call.
If XYZ Rises Above $55 and You Are Assigned
You sell the 100 shares for $55 each and keep the $120 premium.
Stock gain: ($55 - $50) × 100 = $500
Option premium: $1.20 × 100 = $120
Total gross gain: $620
Your effective sale price is $56.20 per share. You do not participate in stock gains above that effective price.
If XYZ Falls to $40
The stock loses $10 per share, or $1,000. The $120 premium offsets part of that loss.
Stock loss: ($40 - $50) × 100 = -$1,000
Premium received: +$120
Net result: -$880
The premium provides a limited cushion. It does not protect the position from a major decline.
7. Manage the Position Before Expiration
You have several ways to handle the position.
The Call Expires Worthless
If the call expires out of the money, the option position ends. You keep the premium and the shares. A call is generally out of the money when the stock price is below the strike.
You Buy Back the Call
You can close the position with a Buy to Close order. If you sold the call for $1.20 and later buy it back for $0.40, your gross option profit is $0.80 per share, or $80 per contract, before costs.
Once the closing transaction is completed, the short call no longer carries an assignment obligation.
You Are Assigned
Assignment requires you to sell the covered shares at the strike price. U.S. equity options are generally American-style, so assignment can happen before expiration.
Early assignment risk can rise when:
- The call is significantly in the money
- The option has little remaining time value
- The stock is approaching its ex-dividend date
- The expected dividend is greater than the option's remaining time value
FINRA identifies dividend-related early assignment as a specific risk for option sellers.
You Roll the Call
Rolling means buying back the existing call and selling another call with a different strike, expiration or both.
A roll does not remove risk. It consists of two separate transactions and should be reviewed as a new position.
The Main Risks of Selling Covered Calls
Your Upside Is Limited
If the stock rallies well above the strike, you will generally have to sell at the strike price. Holding the stock without selling the call would have produced a larger gain.
The Stock Can Still Fall Substantially
If the stock falls to zero, the maximum loss is approximately the stock purchase price minus the premium received, excluding fees, taxes and other adjustments. The premium provides only limited downside protection.
Your Shares May Be Called Away Early
Assignment can occur at any time for American-style equity options. Monitor short calls around ex-dividend dates and when they are deep in the money.
Selling the Shares Can Create Tax Consequences
Option transactions can affect the tax treatment and holding period of the underlying shares. The Internal Revenue Service has specific rules for covered calls, qualified covered calls, loss deferral and holding periods.
Review the current IRS guidance and consult a tax professional before using covered calls in a taxable account.
When Selling Covered Calls Makes Sense
Selling a covered call may fit when:
- You already own the stock or ETF
- You want income from the position
- You would accept selling at the strike price
- Your outlook is neutral to moderately bullish
- You understand that the stock can decline despite the premium
Avoid selling a covered call when:
- You expect a major rally
- You need to retain the shares for an upcoming dividend or another reason
- You would be unwilling to sell at the strike price
- You are using the premium to justify holding a stock you no longer want
- You do not understand assignment or the tax consequences
Bottom Line
The premium is payment for accepting a sale obligation. Sell a covered call only when the strike price, expiration date and possible assignment fit your plan for the shares. If you would not be comfortable selling the stock at that price, keep the call off the order screen.