TOOLS OF THE TRADE

COVERED CALL 

This is a combination strategy that is very popular amongst traders and is represented by many to be an ultra conservative strategy.  The position has risk and in fact, its’ synthetic equivalent is a naked put.  You will see from the risk graph, that the covered call is identical to the short put. 

The covered call can be a marvelous strategy if the trader realizes the risk involved in the position.  If the trade is left unmanaged, it can be dangerous.  The informed trader can do well by following some rules and managing the position from entry to exit.  Consider the following suggestions when initiating the covered call:

·         Stock selection is critical. Select a stock with enough volatility to offer a decent premium but be skeptical of those stocks offering extraordinarily high short call returns.  There is a reason for the high premium and it may foretell a volatile move.

·         Initiate the covered call in a neutral to bullish market on a neutral to bullish stock.

·         Examine the stock chart and stay away from stocks that have a tendency to gap.

·         Only trade stocks that have high liquidity.

·         Do not initiate covered calls around earnings or other fixed news events.

·         Research the message board for the stock you are considering.  You will learn about issues surrounding the stock that are not necessarily in the general news releases.

·         Learn to adjust the position if the stock moves bearish and don’t be afraid to close early for a profit.

Study the graph of the covered call and you will gain a strong understanding of the risk/reward of the position.  Best, Robin