Are you ready to unlock a powerful income-generating strategy for your stock portfolio? Selling covered calls on E*TRADE can be an excellent way to boost your returns, especially if you hold stocks you're comfortable with for the long term. This comprehensive guide will walk you through every step, from understanding the basics to placing your first trade and managing your positions. Let's dive in!
Understanding the Covered Call Strategy
Before we get into the "how," let's clarify the "what." A covered call is an options strategy where you own 100 shares of a stock and simultaneously sell a call option against those shares.
You Own the Stock: This is crucial. Because you own the underlying shares, your upside risk from selling the call is "covered." If the stock price rises significantly, you have the shares to deliver.
You Sell a Call Option: A call option gives the buyer the right, but not the obligation, to buy 100 shares of the underlying stock from you at a specified price (the strike price) on or before a certain date (the expiration date).
You Receive a Premium: When you sell the call option, you immediately receive a cash payment, known as the premium. This is your income for entering the trade.
Why use a covered call? The primary goal of a covered call is to generate income from stocks you already own, particularly if you anticipate the stock's price will remain relatively stable or rise only modestly in the short term. The premium acts as a buffer against small declines in the stock price and can enhance your overall returns.
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| How To Sell Covered Calls On Etrade |
Step 1: Getting Started with E*TRADE - Are You Ready for Options?
Before you can sell covered calls, you need to ensure your E*TRADE account is properly set up for options trading.
Sub-heading: Account Eligibility and Options Level
First things first, does your ETRADE account allow options trading? ETRADE offers different "options levels" that determine the complexity of options strategies you can execute. For covered calls, you'll generally need Options Level 1.
How to Check:
Log in to your E*TRADE account.
Navigate to your Account Settings or Profile.
Look for a section related to "Trading Permissions" or "Options Trading."
You'll see your current options approval level. If it's not Level 1 or higher, you'll need to apply for an upgrade.
Applying for Options Trading Approval:
If you're not approved for options, E*TRADE will guide you through an application process. This typically involves answering questions about your investment experience, financial situation, and trading objectives. Be honest and accurate. The broker uses this information to determine your suitability for options trading.
For covered calls, you'll generally state your objective as "Income" or "Aggressive Income."
Approval can take anywhere from a few hours to a few business days. E*TRADE wants to ensure you understand the risks involved.
Sub-heading: Understanding the Risks (It's Important!)
While covered calls are considered a relatively lower-risk options strategy because you own the underlying stock, there are still risks to be aware of:
Limited Upside Potential: This is the main trade-off. If the stock price soars significantly above your strike price before expiration, your profit on the stock is capped at the strike price plus the premium received. You miss out on any further gains beyond that point.
Assignment Risk: If the stock price is above the strike price at expiration, your shares will likely be "called away" (assigned). This means you're obligated to sell your 100 shares at the strike price to the option buyer, even if the market price is higher.
Stock Price Decline: While the premium provides a small buffer, if the underlying stock drops significantly, you still incur losses on your stock position. The premium only partially offsets these losses.
Opportunity Cost: You might hold onto a stock that could have risen much higher, but you were obligated to sell it at a lower price due to the covered call.
Commissions and Fees: Options trading involves commission fees per contract, which can eat into your profits, especially on smaller trades. Always factor these into your calculations.
Step 2: Identifying the Right Stock for Your Covered Call
This is where your research skills come into play! Not all stocks are ideal for covered calls.
Sub-heading: Characteristics of a Good Covered Call Candidate
Tip: Avoid distractions — stay in the post.
Stocks You Already Own (or are willing to buy): Remember, you need 100 shares per contract you intend to sell.
Stable, Low-to-Moderate Volatility: Avoid highly volatile or speculative stocks. Covered calls work best on stocks that you expect to trade sideways or have a slight upward trend.
Stocks You Don't Mind Selling (at a higher price): Be comfortable with the possibility of your shares being called away at the strike price. If you have a strong conviction that the stock is about to skyrocket, a covered call might not be the best strategy, as it caps your upside.
No Immediate Major Catalysts Expected: Avoid selling covered calls right before major news, earnings reports, or product launches that could cause a significant price surge.
Sub-heading: Leveraging E*TRADE's Research Tools
E*TRADE provides a wealth of tools to help you identify suitable stocks:
Stock Screener: Use E*TRADE's stock screener to filter for companies based on criteria like market capitalization, industry, dividend yield, and volatility (e.g., lower beta stocks).
Analyst Research: Review analyst ratings and price targets to get a sense of market sentiment and potential price movements.
News and Fundamentals: Stay updated on company news, financial reports, and economic indicators that could impact your chosen stock.
Charts and Technical Analysis: Analyze price charts to identify support and resistance levels, trends, and potential breakout points. This can help you determine appropriate strike prices and expiration dates.
Step 3: Choosing the Right Call Option
Once you have your stock, it's time to select the specific call option to sell. This involves deciding on the strike price and expiration date.
Sub-heading: Navigating E*TRADE's Options Chain
Log in to E*TRADE: Access your trading platform.
Go to the "Trade" Tab: Look for "Options" or "Options Chain."
Enter the Stock Symbol: Type in the ticker symbol of the stock you own.
View the Options Chain: You'll see a table displaying various call and put options for different expiration dates and strike prices.
Sub-heading: Selecting the Strike Price
The strike price is the price at which the option buyer can purchase your shares.
Out-of-the-Money (OTM) Calls (Most Common for Covered Calls): These have a strike price above the current market price of the stock.
Benefit: You get to keep your shares and the premium if the stock stays below the strike price. If the stock rises to the strike price, you still profit from the stock appreciation up to that point, plus the premium.
Premium: Generally offers lower premiums compared to At-the-Money (ATM) or In-the-Money (ITM) calls.
At-the-Money (ATM) Calls: These have a strike price equal to or very close to the current market price.
Benefit: Offers higher premiums.
Risk: Higher chance of your shares being called away if the stock moves even slightly upward.
In-the-Money (ITM) Calls: These have a strike price below the current market price.
Benefit: Offers the highest premiums.
Risk: Almost guarantees your shares will be called away, and your potential profit is limited to the premium plus the difference between your cost basis and the strike price. This is often used when you're looking to sell the stock anyway at a specific price, essentially getting paid to place a "limit order."
Considerations for Strike Price:
Your Price Target: If you have a target price at which you'd be happy to sell your stock, choose a strike price around that level.
Premium vs. Upside: A higher strike price means less premium but more potential upside on the stock if it rises. A lower strike price means more premium but less stock upside. Find a balance that suits your goals.
Sub-heading: Choosing the Expiration Date
The expiration date is when the option contract expires.
Short-Term (e.g., 1-2 months):
Benefit: Allows for more frequent premium collection (you can sell another covered call once the current one expires). Less time for the stock to make a significant move past your strike.
Premium: Generally lower premiums for shorter durations.
Longer-Term (e.g., 3+ months, LEAPS):
Benefit: Offers higher premiums due to more time for the stock price to move. Requires less frequent management.
Risk: Ties up your shares for a longer period, and you might miss out on significant long-term gains if the stock takes off.
Considerations for Expiration Date:
Time Horizon: How long are you comfortable having your shares potentially tied up?
Market Outlook: If you foresee a period of low volatility, shorter-term options might be appealing. If you expect more uncertainty, a slightly longer-term option might offer a better premium for the risk.
Step 4: Placing Your Covered Call Order on E*TRADE
Tip: Reread key phrases to strengthen memory.
This is the moment of truth! E*TRADE makes placing covered call orders relatively straightforward.
Sub-heading: Using the Options Trade Ticket
From the Options Chain: Once you've identified your desired strike price and expiration date, click on the "Ask" price of the call option you want to sell. This will typically pre-populate the trade ticket.
Select "Sell to Open": This indicates you are initiating a new short options position (selling an option you don't own, but it's "covered" by your stock).
Confirm Quantity: Ensure the quantity of contracts matches the number of shares you own (1 contract = 100 shares). If you own 200 shares, you can sell 2 contracts.
Review Order Type:
Limit Order (Recommended): Specify the minimum premium you are willing to receive per share. This gives you control over the price. For example, if the option is trading at $1.50, you might set a limit order for $1.45. Your order will only execute if you can get at least that amount.
Market Order (Avoid for Options): A market order executes immediately at the best available price. Options prices can be volatile, and you might receive less premium than expected.
Duration:
Day Order: Your order is active only for the current trading day. If it doesn't execute by market close, it's canceled.
Good-Til-Canceled (GTC): Your order remains active until it's executed or you cancel it (usually up to 60 days).
Review and Confirm: Carefully review all the details of your order: stock symbol, strike price, expiration date, number of contracts, order type, and limit price.
"Place Order" or "Preview Order": E*TRADE will usually give you a preview screen where you can confirm the details and see the estimated premium you'll receive (minus commissions).
Sub-heading: The "Buy-Write" Strategy (Simultaneous Buy and Sell)
If you don't already own the stock but want to execute a covered call, E*TRADE often provides a "Buy-Write" or "Covered Call" strategy option directly in the trade ticket.
Select "Covered Call" as Strategy: Instead of just "Single Option," choose the dedicated covered call strategy.
Enter Stock Quantity: Specify the number of shares you want to buy (e.g., 100, 200, etc.).
Enter Option Details: Choose your desired strike price and expiration date for the call option you'll be selling.
Net Debit/Credit: The trade ticket will show you the net debit (cost) or credit (income) for the combined transaction (buying the stock and selling the call). You'll typically aim for a net debit that's less than simply buying the stock outright.
Place Order: E*TRADE will execute both legs of the trade simultaneously.
Step 5: Managing Your Covered Call Position
Once your order is filled, the work isn't over. Active management is key to maximizing your covered call strategy.
Sub-heading: Possible Outcomes at Expiration
There are generally three scenarios as your covered call approaches expiration:
Stock Stays Below the Strike Price: This is the ideal scenario for pure income generation. The option expires worthless. You keep the entire premium, and you still own your 100 shares of stock. You can then sell another covered call for the next expiration cycle if you wish.
Stock Rises Above the Strike Price (and you get assigned): If the stock price is above the strike price at expiration, your shares will likely be "called away." This means you are obligated to sell your 100 shares at the strike price. You keep the premium received and any profit from the stock's appreciation up to the strike price. While you miss out on further upside, you still made a profit.
Stock Falls in Value: If the stock price declines, you keep the premium, which helps offset some of the loss on your stock position. However, you still own the declining stock.
Sub-heading: Adjusting and Closing Your Position
You don't have to wait until expiration. You can adjust or close your covered call position at any time.
Buying to Close the Call: If the stock drops significantly, or if you simply want to remove the obligation to sell your shares (perhaps because you now expect a big rally), you can buy back the call option you sold. This is called "buying to close." You'll pay the current market price for the option. If the option's value has decreased since you sold it, you'll profit from closing it.
Rolling the Covered Call: This is a common adjustment technique. You buy to close your existing call option and simultaneously sell to open a new call option with a different strike price and/or different expiration date.
Rolling Up: Selling a new call with a higher strike price. This gives the stock more room to run. You might do this if the stock has risen but you don't want to sell your shares yet. You might pay a debit (cost) for this roll.
Rolling Out: Selling a new call with a later expiration date. This gives the stock more time. You might do this if the option is about to expire In-the-Money, and you want to avoid assignment, or if you want to extend your income stream.
Rolling Up and Out: A combination of both, often done to generate additional premium or avoid assignment while giving the stock more room and time.
How to Adjust on E*TRADE:
Go to your Portfolio or Positions page.
Locate your covered call position.
Look for options like "Trade," "Close," or "Roll." E*TRADE's platform often has built-in tools for rolling options that simplify the process of executing multiple legs of a trade simultaneously.
Example of a Covered Call on E*TRADE
QuickTip: Read in order — context builds meaning.
Let's illustrate with a hypothetical scenario:
Current Situation:
You own 100 shares of XYZ Corp, purchased at $48 per share.
XYZ Corp is currently trading at $50 per share.
You believe XYZ Corp will trade sideways or rise slightly in the next month, but you're happy to sell it if it hits $55.
Your Covered Call Trade:
You go to the E*TRADE options chain for XYZ.
You find the XYZ $55 Call option, expiring one month from now.
The bid price for this option is $1.20 (meaning you can sell it for $1.20 per share, or $120 per contract).
You decide to Sell to Open 1 contract of the XYZ $55 Call for $1.20.
Possible Outcomes:
XYZ stays below $55 (e.g., closes at $53) at expiration:
The option expires worthless.
You keep the $120 premium.
You still own your 100 shares of XYZ, now worth $53 each.
Your gain for the month: $120 (premium) + ($53 - $50) * 100 (stock appreciation) = $120 + $300 = $420. You can then sell another covered call.
XYZ rises above $55 (e.g., closes at $57) at expiration:
The option is In-the-Money and likely assigned.
Your 100 shares are sold at the strike price of $55.
You keep the $120 premium.
Your total profit: ($55 - $48) * 100 (profit from original purchase price to strike) + $120 (premium) = $700 + $120 = $820.
What you missed: The extra $2 per share above $55 (i.e., $57 - $55 = $2) that the stock gained. This is your opportunity cost.
XYZ falls (e.g., closes at $45) at expiration:
The option expires worthless.
You keep the $120 premium.
You still own your 100 shares of XYZ, now worth $45 each.
Your net loss on the stock: ($48 - $45) * 100 = $300.
Premium offsets loss: The $120 premium helps offset some of that loss, so your net loss is $300 - $120 = $180. Without the covered call, your loss would have been $300.
Conclusion
Selling covered calls on E*TRADE can be a powerful strategy for generating consistent income from your stock portfolio. By understanding the mechanics, carefully selecting your stocks and options, and actively managing your positions, you can enhance your returns and potentially reduce the impact of minor stock declines. Remember to always educate yourself and understand the risks involved before placing any trades. Happy trading!
10 Related FAQ Questions
How to choose the right stock for selling covered calls?
Choose stable, fundamentally sound companies that you already own or are willing to hold long-term. Look for stocks with low to moderate volatility and avoid those with imminent major catalysts like earnings reports.
How to determine the best strike price for a covered call?
The "best" strike price depends on your outlook. For income and a higher chance of retaining shares, choose an out-of-the-money (OTM) strike. If you're comfortable selling the stock at a specific higher price, an ATM or slightly ITM strike can yield more premium but increases the likelihood of assignment.
How to select the ideal expiration date for a covered call?
Shorter expiration dates (e.g., 30-60 days) offer less premium but allow for more frequent premium collection and less time for the stock to move significantly. Longer dates yield more premium but tie up your shares for longer and come with higher opportunity cost if the stock skyrockets.
Tip: Pause, then continue with fresh focus.
How to manage a covered call if the stock price drops?
If the stock price drops, the call option you sold will lose value. You can let it expire worthless, keeping the premium as a buffer against your stock losses, or you can buy to close the option for a profit, freeing up your shares and reducing your overall loss.
How to handle a covered call if the stock price soars above the strike price?
If the stock price rises significantly above your strike price, your shares are likely to be assigned (called away) at the strike price. You keep the premium and the profit from the stock's appreciation up to the strike price. You can choose to buy back the shares in the open market or simply let them go and find a new stock.
How to "roll" a covered call on E*TRADE?
To roll a covered call, you simultaneously buy to close your existing call option and sell to open a new call option, typically with a different strike price (usually higher) and/or a later expiration date. E*TRADE's platform often has a specific "Roll" function in your positions tab to facilitate this.
How to close a covered call position on E*TRADE before expiration?
You can close a covered call position at any time by buying to close the call option you originally sold. Go to your positions, select the option, and choose "Buy to Close." If the option's price has decreased, you'll profit from this action.
How to calculate the maximum profit for a covered call?
The maximum profit for a covered call is the premium received from selling the call option plus the difference between the strike price and your original purchase price of the stock (if the strike is higher than your purchase price). Maximum profit = (Strike Price - Stock Purchase Price) + Premium Received.
How to avoid assignment on a covered call?
The only guaranteed way to avoid assignment is to buy back the call option before expiration. If the option is in-the-money (stock price above strike) as expiration approaches, you will likely be assigned unless you close the position. You can also roll the option to a higher strike or later expiration.
How to minimize risks when selling covered calls?
Minimize risks by choosing stable, less volatile stocks, diversifying your portfolio, and not overselling calls (e.g., only selling calls on stocks you wouldn't mind selling anyway). Always be aware of earnings dates and other news that could cause large price swings, and consider closing positions if market conditions change drastically.
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