As of late, investing in the stock market seems grim. As share values continue to plummet, investors continue to panic, sell and lose money. Successful investing is all about playing the odds, and right now the odds don't seem to be in anyone's favor. However, what most people don't know, is there are still a few ways to raise your odds of investing successfully while minimizing losses, the easiest being covered calls.
How Covered Calls Work
A covered call is a transaction where the seller of (in this case) a stock, already owns the shares for which he or she is going to sell call options for. When a call is written, a premium is paid from the (future) buyer to the seller. At this time, the price at which the buyer may purchase the stock during the time period for which the call is set is also decided upon. If the price of the stock goes above the negotiated price, the buyer will purchase the stock for the negotiated price and pocket the difference, while the seller earns the premium.
How Covered Calls Help Reduce Investment Risk
As previously stated, covered calls can greatly reduce the risk associated with your stock investments. If you decide to purchase a call, you eliminate the risk of a completely failed investment. However, this does come at the cost of the premium, since it is paid whether or not you purchase the stock. If the stock price does go up, then you can activate the call, purchase the stock with zero risk and guaranteed income, all while only forfeiting the money paid as premium.
Sellers of covered calls also reduce the risk associated with their investments. When you sell a covered call on stock you already own, you automatically make the premium as income. Due to this, even if the stock plummets and is a failed investment, your losses are still less than normal. However, it is important to keep in mind that if the stock shoots up above the negotiated price, you will be forced to sell it to the buyer of the call for less money than it is actually worth, keeping the premium as your only profit.
Covered Calls Reduce Investment Risk
Covered calls are a great way to reduce the risk of investments, especially in a volatile market. However, they should be written or bought carefully and well thought out. If you own a stock which you truly believe will be successful, then there is not much reason to write a covered call on it unless you are OK with forfeiting some of your profits. However, if you feel a stock of yours is doomed to fail, then writing covered calls is a great way to reduce your losses.
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