Investors often look for income through their investments in the form of dividends. Yet many investors overlook opportunities to create income by using options. In particular, using a strategy called ‘selling covered calls’ can create an attractive stream of cash and generate returns similar to the market as a whole, but with lower levels of risk according to independent researchers.
A call option is simply a security that gives the buyer of the call the right, but not the obligation to purchase a particular stock for a given price for a period of time in the future. For example, a $50 June 2017 call on Microsoft (MSFT ) gives the buyer of the call the right to buy Microsoft from the seller for $50 per share anytime between now and June 2017. Of course, the buyer of the call will only exercise this option if Microsoft’s stock is trading at a price of more than $50 per share.
In exchange for allowing the call buyer to potentially buy Microsoft in the future, the buyer pays the seller an upfront price for the call. That price or “premium” may be kept by the call seller no matter what happens. If Microsoft goes up, down or sideways, the seller still gets to keep the premium.
In many respects then, selling calls is a little like receiving a dividend – it’s a cash payment that belongs to one party (the investor/call seller), no matter what happens to the underlying stock. And because calls expire – in some cases as often as once a week – selling calls can create an on-going income source.
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