What is a covered call?
A covered call combines stock ownership with selling a call option on that same stock.
The strategy generates income from option premiums but limits upside beyond the strike price.
It can work better for investors expecting the stock to remain flat or moderately higher in the near term.
A covered call is an options trading strategy where an investor sells (or “writes”) call options on a stock they already own. The goal is to generate income from option premiums while potentially giving up some future upside in the stock’s price.
Covered calls are often used by investors seeking additional cash flow from their portfolios or a modest hedge against short-term market fluctuations. However, they also limit potential gains if the stock price rises significantly above the option’s strike price.
What the covered call strategy entails
A covered call involves holding a stock and simultaneously selling a call option on that stock. Each standard option contract typically covers 100 shares, so you need to own at least that amount to implement the strategy.
Why it’s called “covered”
It’s “covered” because you already own the underlying shares that may be called away. This ownership covers your obligation to deliver the shares if the call option buyer exercises their right to purchase them.
How covered calls work: Step-by-step
Own the stock: You buy or already hold at least 100 shares of a company.
Sell a call option: You sell one call option contract (100 shares) on that stock, choosing a strike price and expiration date.
Receive a premium: You collect the premium (income) from the option buyer.
Then one of two outcomes occurs:
Stock stays below the strike price: the option expires worthless. You keep both the shares and the premium.
- Stock rises above the strike price: the option is exercised. You sell your shares at the strike price, keeping the premium and any stock gains up to that strike, but losing upside beyond it.
Example illustration of a covered call
Let’s say you:
Own 100 shares of XYZ stock at $100 per share.
Sell one call option with a strike price of $110 for a $3 premium.
Two possible outcomes:
If the stock stays below $110 → the call expires worthless. You keep your shares and the $300 premium (100 × $3).
If the stock rises to $120 → the call is exercised. You sell your shares at $110, keeping the $10 per share gain plus the $3 premium, but missing out on the extra $10 upside above $110.
Risks & trade-offs of covered calls
Capped upside potential
Once you sell the call, your maximum gain is capped at the strike price plus the premium received. If the stock surges higher, you won’t benefit beyond that level.
Still subject to stock risk
You remain fully exposed to downside risk if the stock price drops significantly. The option premium offers only partial protection.
Commitment / possible forced sale
If the option is exercised, you must sell your shares at the strike price, even if you’d prefer to keep them.
Opportunity cost
If the stock rallies strongly, you’ll miss the additional profits you could have earned without selling the call.
When is a covered call appropriate?
Ideal market conditions & investor outlook
A covered call strategy can be useful when:
You expect flat or modest gains in the stock price.
You prefer steady income over high-growth potential.
- You’re comfortable selling the stock if it reaches the strike price.
When a covered call might be less appropriate
Avoiding covered calls may be better if:
You expect the stock to rise sharply in value.
You want to hold the stock long term without risk of being called away.
The stock is highly volatile, making it harder to predict price movements or manage assignment risk.
Common mistakes with covered calls
Selling “naked” calls without owning the shares, this carries unlimited risk.
Setting the strike too low, which can lead to early assignment and missed upside.
Ignoring ex-dividend or early exercise risks, especially near payout dates.
Underestimating capital requirements, you need 100 shares per contract.
Using covered calls on speculative or volatile stocks not suited to stable income strategies.
Bottom line
A covered call strategy lets investors earn extra income on stocks they already own by selling call options. It can be effective in neutral or mildly bullish markets, providing regular premiums and modest downside protection.
However, it comes with trade-offs: capped upside, exposure to losses, and possible stock sales. Success depends on choosing suitable stocks, strike prices, and managing your positions carefully.
Want more ways to generate returns?
If you’re looking to balance higher-risk strategies with lower-risk savings options, you can also explore high-yield savings accounts and CDs on the Raisin platform to diversify your savings with predictable returns — all in one place.
Frequently asked questions
The maximum profit equals the option premium plus any stock appreciation up to the strike price.
The call may be exercised, and you’ll be obligated to sell your shares at the strike price. You keep the premium but miss out on further gains.
Yes. Many investors use covered calls to generate steady income from option premiums on long-held stocks.
Covered calls are sometimes viewed as one of the more straightforward options strategies, but they still involve risks and require a solid understanding of both stock ownership and options mechanics.
The above article is intended to provide generalized financial information designed to educate a broad segment of the public; it does not give personalized tax, investment, legal, or other business and professional advice. Before taking any action, you should always seek the assistance of a professional who knows your particular situation for advice on taxes, your investments, the law, or any other business and professional matters that affect you and/or your business.
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