Hey there, aspiring option trader! Ever looked at your stock portfolio and thought, "How can I make these holdings work a little harder for me?" If you own shares of a solid company and don't mind the idea of potentially selling them at a slightly higher price, then selling covered calls on Merrill Edge might just be the strategy you're looking for. It's a fantastic way to generate extra income from your existing stock positions.
This guide will walk you through the entire process, step-by-step, to confidently execute covered call trades on the Merrill Edge platform. Let's dive in!
Understanding the Covered Call Strategy
Before we get into the "how-to," let's quickly clarify what a covered call is.
A covered call is an options strategy where you own 100 shares of a stock and simultaneously sell one call option contract against those shares. Each option contract typically represents 100 shares of the underlying stock.
Why is it "covered"? Because you own the underlying shares, you have the "cover" to deliver those shares if the option buyer decides to exercise their right to buy your stock. This significantly reduces the risk compared to selling "naked" (uncovered) calls.
What do you gain? When you sell the call option, you immediately receive a premium (cash) from the buyer. This premium is yours to keep, regardless of what happens to the stock.
What's the catch? In exchange for that premium, you agree to sell your 100 shares at a specific price (the strike price) if the stock price rises above that level before the option's expiration date. Your upside profit on the stock is capped at the strike price plus the premium received.
The covered call strategy is generally considered a neutral to mildly bullish strategy, meaning you expect the stock to stay flat, go down slightly, or go up modestly.
Your Step-by-Step Guide to Selling Covered Calls on Merrill Edge
Step 1: Confirm Your Merrill Edge Account is Ready for Options Trading
Before you can even think about selling a covered call, you need to ensure your Merrill Edge account is approved for options trading.
Check Your Options Trading Level: Merrill Edge, like most brokers, assigns different "options trading levels" based on your experience, financial situation, and risk tolerance. For selling covered calls, you typically need at least Level 1 options approval. This level generally allows for basic strategies like covered calls and buying protective puts.
How to check: Log in to your Merrill Edge account. Navigate to your account settings or profile. Look for sections related to "Trading Permissions" or "Options Trading." If you're unsure, it's best to call Merrill Edge customer service.
Apply for Options Trading (if needed): If your account isn't approved, you'll need to submit an application. This process involves answering questions about your investing experience, financial objectives, income, net worth, and risk tolerance. Be honest and thorough.
What to expect: The application may take a few business days to process. Merrill Edge wants to ensure you understand the risks involved with options trading. You may need to acknowledge disclosures about the risks of options.
Pro Tip: Even though covered calls are considered a relatively low-risk options strategy (because you own the underlying shares), options trading still carries inherent risks. Always ensure you understand these risks before proceeding.
Step 2: Identify a Suitable Stock for a Covered Call
This is where the investment decision-making comes in! Not every stock is ideal for selling covered calls.
Own at least 100 shares: This is non-negotiable. One options contract covers 100 shares. If you own 250 shares, you can sell up to two covered call contracts.
Choose a Stock You're Comfortable Holding: Remember, if the stock price goes above your strike price, your shares might be "called away" (sold). You should be okay with the idea of selling your shares at that price. Conversely, if the stock falls, you'll still own the shares, and the premium will only offer limited downside protection.
Consider Your Outlook: Are you neutral to mildly bullish on the stock in the short to medium term? If you believe the stock is about to skyrocket, selling a covered call will cap your potential upside, which might not be what you want. If you think the stock will crash, the premium might not be enough to offset your losses.
Look for Decent Implied Volatility (IV): Higher implied volatility generally leads to higher option premiums. However, high IV also means the stock is expected to move significantly, increasing the chance of your shares being called away or the stock falling sharply. A balance is key.
Avoid Ex-Dividend Dates (Sometimes): If you sell a covered call and the stock's ex-dividend date approaches, the option buyer might exercise the option early to capture the dividend. This can lead to your shares being called away sooner than expected. Be aware of this if collecting dividends is a priority.
Step 3: Navigate to the Options Chain on Merrill Edge
Once you've picked your stock, it's time to find the options contracts.
Log in to Merrill Edge: Access your online brokerage account.
Search for Your Stock: Use the search bar or navigate to your portfolio to find the stock you intend to write the covered call on.
Access the Options Chain: Look for a link or tab usually labeled "Options," "Options Chain," or "Trade Options" on the stock's quote page. Clicking this will display the various call and put options available for that stock.
Step 4: Select Your Covered Call Parameters
This is where you define the specific terms of your covered call.
Choose an Expiration Date:
Short-term (e.g., 1-2 months out): Generally offers higher time decay (theta decay) which benefits the option seller, but less time for the stock to move significantly. Premiums are typically lower than longer-term options.
Longer-term (e.g., 3-6 months out): Provides more premium but also more time for the stock to move, increasing the risk of assignment or the stock dropping substantially.
Consider your investment horizon and how long you're comfortable having your upside capped.
Select a Strike Price: This is the price at which you agree to sell your shares if the option is exercised.
Out-of-the-Money (OTM): This is generally recommended for covered calls. The strike price is above the current stock price. You collect less premium than an in-the-money (ITM) option, but you allow for some capital appreciation on your shares up to the strike price before they get called away.
At-the-Money (ATM): The strike price is equal to or very close to the current stock price. You'll collect a higher premium, but your shares are more likely to be called away, and you'll give up any immediate upside appreciation.
In-the-Money (ITM): The strike price is below the current stock price. You'll collect the most premium, but your shares are highly likely to be called away, and you'll immediately give up capital gains up to the strike price. This is often used if you want to exit a position at a certain price and collect some extra income in the meantime.
Identify the "Bid" Price for Selling: In the options chain, you'll see a "Bid" and "Ask" price for each option contract. When you sell an option, you'll receive the bid price. This is the premium you will collect per share (multiplied by 100 for one contract).
Step 5: Place Your Covered Call Order on Merrill Edge
This is the execution step!
Initiate the Trade: On the options chain, find the specific call option you've chosen (based on expiration and strike price).
Select "Sell to Open": This indicates you are initiating a new position by selling. Do not select "Sell to Close" unless you are closing an existing covered call position.
Specify Quantity: Enter "1" for one contract (covering 100 shares), "2" for two contracts (covering 200 shares), and so on, based on how many shares you own.
Choose Order Type:
Limit Order (Recommended): This allows you to specify the exact premium you want to receive. Your order will only execute if that price (or better) is available. This is crucial for options trading, as prices can fluctuate rapidly. Set your limit price at or slightly above the current bid price.
Market Order (Generally Avoided for Options): A market order executes immediately at the best available price. While fast, it can lead to unfavorable fills, especially with less liquid options.
Review and Confirm: Merrill Edge will provide an order confirmation screen detailing your trade, the premium you'll receive, estimated fees, and the potential impact on your account. Carefully review all details before submitting.
Submit Order: Click "Place Order" or "Submit Trade."
Step 6: Monitor and Manage Your Covered Call Position
Once your order is executed, the work isn't over. You need to keep an eye on your position.
Track the Stock Price:
If the stock stays below the strike price: The option will likely expire worthless. You keep the entire premium, and you still own your shares. You can then sell another covered call for the next expiration cycle if you wish. This is the ideal outcome for income generation.
If the stock rises above the strike price: Your option is "in-the-money." There's a higher probability your shares will be "called away" (assigned) at the strike price. You still keep the premium, but your profit from the stock is capped at the strike price.
If the stock falls: The option will likely expire worthless, and you keep the premium. However, the premium only provides limited protection against a falling stock price. You still own the depreciating shares.
Consider "Rolling" Your Covered Call:
Rolling Up and Out: If the stock price is nearing or has surpassed your strike price, and you don't want your shares called away, you can "roll" the option. This involves buying back your current call option (closing it) and simultaneously selling a new call option with a higher strike price and a later expiration date. This allows you to collect more premium and potentially give the stock more room to run, but it also ties up your shares for longer.
Rolling Out: If the option is still out-of-the-money but nearing expiration, you can roll it out to a later expiration date to continue generating income, assuming you still like the stock.
Assignment: If your stock is called away, the shares will be sold from your account at the strike price. This usually happens automatically around the expiration date if the option is in-the-money. You will see the proceeds from the sale in your account.
Potential Benefits of Selling Covered Calls:
Income Generation: The primary benefit is the regular income you receive from selling the premiums, which can boost your overall portfolio returns.
Downside Protection (Limited): The premium received provides a small buffer against a decline in the stock's price. If the stock falls, you've at least partially offset some of that loss with the premium.
Potential for Profit Even if Stock Stalls: If the stock trades sideways, you still profit from the premium, which you wouldn't do by just holding the stock.
Lower Risk (Compared to Other Options Strategies): Since you own the underlying shares, your risk is defined to the downside as the stock falling, minus the premium received. You won't face unlimited losses as you would with naked call options.
Risks and Considerations:
Capped Upside Potential: This is the biggest drawback. If your stock soars past your strike price, you'll miss out on any gains above that price. Your profit is limited to the strike price minus your cost basis, plus the premium.
Opportunity Cost: While you collect premium, you might miss out on larger capital gains if the stock experiences a significant rally.
Still Exposed to Downside Risk: The premium only offers limited protection. If the stock drops significantly, you'll still incur a loss on your shares, even with the premium collected.
Assignment Risk: Your shares can be called away at any time before expiration (for American-style options, which most equity options are), especially if the option is deep in-the-money or an ex-dividend date is approaching.
10 Related FAQ Questions
How to get approved for options trading on Merrill Edge?
You need to apply for options trading permission within your Merrill Edge account. This typically involves answering questions about your investment experience, financial situation, and risk tolerance to qualify for the appropriate options trading level (at least Level 1 for covered calls).
How to choose the right stock for a covered call on Merrill Edge?
Select a stock you already own (or are willing to buy in 100-share increments) that you're comfortable holding long-term, have a neutral to mildly bullish outlook on, and ideally, one that exhibits a reasonable amount of implied volatility to generate a decent premium.
How to select the best expiration date for a covered call on Merrill Edge?
Consider your investment horizon. Shorter-term expirations (1-2 months) benefit from faster time decay and offer more frequent income opportunities, while longer-term options provide more premium but tie up your shares for longer.
How to pick the ideal strike price for a covered call on Merrill Edge?
For most covered calls, an out-of-the-money strike price (above the current stock price) is recommended. This allows for some upside appreciation while still collecting a premium. The further out-of-the-money, the lower the premium, but the higher the potential for capital gains.
How to place a "Sell to Open" order for a covered call on Merrill Edge?
Navigate to the options chain for your chosen stock, select the specific call option (strike and expiration), and choose "Sell to Open." Input the number of contracts (e.g., 1 for 100 shares) and use a limit order to specify your desired premium.
How to view my active covered call positions on Merrill Edge?
Once placed, your covered call positions will appear in your Merrill Edge portfolio under your "Positions" or "Options" tab. You can typically see details like the strike price, expiration, current market value, and unrealized gain/loss.
How to close a covered call position early on Merrill Edge?
If you want to close your covered call before expiration (e.g., to lock in profits, reduce risk, or free up your shares), you would place a "Buy to Close" order for the same option contract you originally sold.
How to "roll" a covered call on Merrill Edge?
Rolling involves two steps: first, place a "Buy to Close" order for your existing covered call. Second, simultaneously place a "Sell to Open" order for a new call option with a different (often higher) strike price and/or a later expiration date. Some brokers offer a "roll" function that combines these two orders.
How to handle assignment of a covered call on Merrill Edge?
If your covered call is in-the-money at expiration, your shares will likely be "called away." Merrill Edge will automatically sell your 100 shares per contract at the strike price, and the proceeds will be deposited into your account. You'll receive a confirmation of the assignment.
How to find Merrill Edge's options trading fees?
Merrill Edge generally offers $0 online stock, ETF, and option trades, but a per-contract fee often applies to options (e.g., $0.65 per contract). You can find their detailed pricing schedule on their website under "Pricing" or "Fees & Commissions."
