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Short Call

AKA Naked Call; Uncovered Call

The Setup

  • Sell a call, strike price A
  • Generally, the stock price will be below strike A

Who Should Run It

All-Stars only

NOTE: Uncovered short calls (selling a call on a stock you don’t own) is only suited for the most advanced option traders. It is not a strategy for the faint of heart.

When to Run It

You’re bearish to neutral.

The Sweet Spot

There’s a large sweet spot. As long as the stock price is at or below strike A at expiration, you make your maximum profit. That’s why this strategy is enticing to some traders.



About the Security

Options are contracts which control underlying assets, oftentimes stock. It is possible to buy (own or long) or sell (“write” or short) an option to initiate a position. Options are traded through a broker, like TradeKing, who charges a commission when buying or selling option contracts.

Options: The Basics is a great place to start when learning about options. Before trading options carefully consider your objectives, the risks, transaction costs and fees.

The Strategy

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.

Implied Volatility

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.

Option Guy's Tips

  • You may wish to consider ensuring that strike A is around one standard deviation out-of-the-money at initiation. That will increase your probability of success. However, the higher the strike price, the lower the premium received from this strategy.
  • Some investors may wish to run this strategy using index options rather than options on individual stocks. That’s because historically, indexes have not been as volatile as individual stocks. Fluctuations in an index’s component stock prices tend to cancel one another out, lessening the volatility of the index as a whole.


Tools

1297 Trader Network Forums
Trader Network Forums Speak your mind about the securities you’re trading – and connect with other traders in our Network.

1293 Trader Network Trade Notes
Trader Network Trade Notes Explain your rationale and goals for every trade – and get valuable feedback from others.

1327 Trailing stop
Trailing Stop Order This handy order type lets you “trail” your stop order for a stock, option or ETF you hold by a method you specify. Lock in potential profits and limit losses automatically.

More tools...

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