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How to Boost your Stock Returns while Lowering your Risk

An options strategy called Covered Call
Writing is a conservative strategy designed2. You reduce risk because premium in effect
to reduce risk and increase income whenreduces  the  price  you  paid for the stock;
investing in stocks. Briefly stated, stock
options are contracts in which you buy or3. Your annual yield is boosted far above
sell the right to buy or sell. Although therethat  of  the  dividend  alone.
are eight types of options contracts, we're
interested here in low-risk "Covered CallHowever, there are other considerations. For
Writing."one, you are limiting your potential profits.
No matter how high the stock rises, you won't
Here's how it works: Say it's August and yousell for more than $50. You can solve this
buy 300 shares of XYZ stock at the price ofproblem by buying your option back, in effect
$48 per share. XYZ pays a quarterly dividendcanceling it out. You would do this if you
of 50 cents per share. Therefore, if thelater think the stock will dramatically rise
price never moves, you'll earn 4.2% per year.and you don't want to miss the gains to be
made.
At the same time, you would participate in
Covered Call Writing. To do so, you, youAlso, you have not reduced the risk that
would "write three January 50 Calls." Thisyour stock may drop in price. The only
means you are selling ("writing") the rightcertainty is, should XYZ drop $25, your
for someone else to buy the stock from youoption will not be exercised - a small
(they "call" it away) between now and theconsolation. To protect yourself, you may
third Friday of January at the specified"buy a January 45 put" giving you the right
price of $50. (All contracts expire the thirdto sell your stock for $45. This is the
Friday  of  the  month.)opposite of what we've reviewed here, and is
designed to minimize losses, rather than
Each contract represents 100 shares, henceprotect  gains.
three contracts. The buyers pay you a fee
(called a "premium") of $3.5 per share, orBecause of the potential for price drops,
$1,050. (The premium is based on the amountyou should choose a high quality, blue-chip
of time until expiration and the spreadstock that fits your budget, an which offers
between the current price and the "strikea stable trading range, solid fundamental,
price," in this case $50. Therefore, thehigh  dividends,  and  good growth potential.
premium  changes  constantly.)
Covered Call Writing is not a reason to own
Assuming you don't cancel, only two thingsstocks, but the strategy might be of help if
can happen next: The contract will getyou already own them. Prior to opening an
exercised or it will expire worthless inaccount, you must receive and urged to read
January. Either way, you keep the $1,050."Characteristics and Risk of Standardized
Clearly, this strategy can yield big rewards.Options," which is published by the Options
Among  the  advantages  are:Clearing Corporation in cooperation with NASD
and all major U.S. stock exchanges. The
1. You are establishing a profitable sellbooklet is available from any broker or
price the day you buy the stock. Iffinancial advisor.
exercised,  you  are  guaranteed  a  profit;



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