Covered Calls Explained

I’m exploring covered calls as an investment strategy. It seems like a good way of selling stocks which are performing poorly in your portfolio. Let’s say you have a stock S, which is currently at $10 and you bought it at $12. If you buy a call on it two months from now positioned it to hit $15 at premium of $1. Now come maturity date there are two things which can happen. First the stock actually is at $8, and you get to keep your premium. In this case you actually managed to reduce your loss on this stock from $2 ($10-$8) to $1 (you made $1 in premium). In second case the stock actually goes to $17, in this case you sell the stock at $15 and keep the premium $1, you have a loss of $1 because if you kept the stock as it is you would have made $7!

So covered calls are a good conservative strategy of making money on you current stock which you don’t think will have much of an upside in near future.

Thoughts ?

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