| An options strategy called Covered Call | | | | |
| Writing is a conservative strategy designed | | | | 2. You reduce risk because premium in effect |
| to reduce risk and increase income when | | | | reduces the price you paid for the stock; |
| investing in stocks. Briefly stated, stock | | | | |
| options are contracts in which you buy or | | | | 3. Your annual yield is boosted far above |
| sell the right to buy or sell. Although there | | | | that of the dividend alone. |
| are eight types of options contracts, we're | | | | |
| interested here in low-risk "Covered Call | | | | However, 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 you | | | | sell for more than $50. You can solve this |
| buy 300 shares of XYZ stock at the price of | | | | problem by buying your option back, in effect |
| $48 per share. XYZ pays a quarterly dividend | | | | canceling it out. You would do this if you |
| of 50 cents per share. Therefore, if the | | | | later 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, you | | | | Also, you have not reduced the risk that |
| would "write three January 50 Calls." This | | | | your stock may drop in price. The only |
| means you are selling ("writing") the right | | | | certainty is, should XYZ drop $25, your |
| for someone else to buy the stock from you | | | | option will not be exercised - a small |
| (they "call" it away) between now and the | | | | consolation. 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 third | | | | to 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, hence | | | | protect gains. |
| three contracts. The buyers pay you a fee | | | | |
| (called a "premium") of $3.5 per share, or | | | | Because of the potential for price drops, |
| $1,050. (The premium is based on the amount | | | | you should choose a high quality, blue-chip |
| of time until expiration and the spread | | | | stock that fits your budget, an which offers |
| between the current price and the "strike | | | | a stable trading range, solid fundamental, |
| price," in this case $50. Therefore, the | | | | high dividends, and good growth potential. |
| premium changes constantly.) | | | | |
| | | | Covered Call Writing is not a reason to own |
| Assuming you don't cancel, only two things | | | | stocks, but the strategy might be of help if |
| can happen next: The contract will get | | | | you already own them. Prior to opening an |
| exercised or it will expire worthless in | | | | account, 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 sell | | | | booklet is available from any broker or |
| price the day you buy the stock. If | | | | financial advisor. |
| exercised, you are guaranteed a profit; | | | | |