Selling the call obligates you to sell stock at strike price A if the option is assigned.
When running this strategy, you want the call you sell to expire worthless. That’s why most investors sell out-of-the-money options.
This strategy has a low profit potential if the stock remains below strike A at expiration, but unlimited potential risk if the stock goes up. The reason some traders run this strategy is that there is a high probability for success when selling very out-of-the-money options. If the market moves against you, then you must have a stop-loss plan in place. Keep a watchful eye on this strategy as it unfolds.
Maximum Potential Profit
Potential profit is limited to the premium received for selling the call.
If the stock keeps rising above strike A, you keep losing money.
Maximum Potential Loss
Risk is theoretically unlimited. If the stock keeps rising, you keep losing money. You may lose some hair as well. So hold onto your hat and stick to your stop-loss if the trade doesn’t go your way.
Break-even at Expiration
Strike A plus the premium received for the call.
TradeKing Margin Requirements
Margin requirement is the greater of the following:
- 25% of the underlying security value minus the out-of-the-money amount (if any), plus the premium received
- OR 10% of the underlying security value plus the premium received
NOTE: The premium received from establishing the short call may be applied to the initial margin requirement.
After this position is established, an ongoing maintenance margin requirement may apply. That means depending on how the underlying performs, an increase (or decrease) in the required margin is possible. Keep in mind this requirement is subject to change and is on a per-contract basis. So don’t forget to multiply by the total number of contracts when you’re doing the math.
As Time Goes By
For this strategy, time decay is your friend. You want the price of the option you sold to approach zero. That means if you choose to close your position prior to expiration, it will be less expensive to buy it back.
After the strategy is established, you want implied volatility to decrease. That will decrease the price of the option you sold, so if you choose to close your position prior to expiration it will be less expensive to do so.