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A Short Call is a bearish strategy involving the sale of an unprotected call. This strategy results in a net premium received (credit) upon initial order entry. Uses A short call allows investors to receive a premium by taking on the obligation to sell the stock at the short put strike price. Traders who pursue this strategy expect the stock price to decline and close on or above the short call strike price by expiration. Option traders that sell deeper in-the-money calls are more bearish on the underlying security, but have a lower probability of the put expiring worthless. Those that sell calls that are more out-of-the-money are slightly bearish and have a higher probability of the option expiring worthless, but do not receive as much premium. Risks This strategy is considered to have very high risk and limited reward. The maximum gain occurs when the stock price remains below the short call strike price by expiration. The maximum gain amount is limited to the net credit received. The maximum loss cannot be measured and will occur if the stock increases to extreme levels by expiration. Upward price movement is the largest risk associated with this strategy and should be the primary focus of the investor. Also, the option trader can be required to contribute more capital for option requirements. There is the potential that more capital could be lost than the original requirement to implement the strategy. Increasing implied volatility can have a negative impact on this strategy. Option traders electing to close the position before expiration could be impacted by declining implied volatility. Time decay has a very favorable effect on this strategy. Options traders have assignment risk on this trade. Early assignment (American Style) is always a possibility. This normally occurs when the strike price is in-the-money, especially the day before a dividend ex-date. When these risks are a concern, the best course of action may be to close the strategy prior to potential assignment.
Important Note: Options involve risk and are not suitable for all investors. For more information, please read the Characteristics and Risks of Standardized Options. |
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