AARP Getting Started in Options by Michael C. Thomsett

Author:Michael C. Thomsett
Language: eng
Format: epub
Publisher: Wiley
Published: 2010-05-10T16:00:00+00:00

If you own stock with an appreciated market value, you face a dilemma that every stockholder has to resolve. If you sell and take a profit now, that is a sure thing, but you lose out in the event that further profits could also be earned by keeping those shares. You also face the risk of a decline in market value, meaning some of today’s appreciated value will be lost. As a long-term investor, you may be less concerned with short-term price changes; however, anyone would like to protect their paper profits.

Covered call writing is the best way to maximize your profits while providing downside protection. As long as your call is in the money, every point lost in the stock is matched by a lost point in the call; a paper loss in the stock is replaced with profits in the call position. The time value premium is potentially all profit, since it will disappear even if the stock’s market value goes up, an important point that too many options traders overlook (especially buyers). When your basis is far below striking price of the call, you lock in a capital gain in the event of exercise.

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