Unlocking Income Potential: A Step-by-Step Guide to Placing a Covered Call on E*TRADE
Are you ready to explore a strategy that can generate income from stocks you already own, potentially even in a flat or slightly down market? The covered call is a popular option strategy that allows you to do just that. If you're an ETRADE user, you're in the right place! This comprehensive guide will walk you through every step of placing a covered call on ETRADE, from understanding the basics to executing the trade and managing it afterward.
Step 1: Are You Ready to Generate Income with Your Stocks? Let's Find Out!
Before we dive into the nitty-gritty of E*TRADE's platform, let's make sure you're comfortable with the core concept. Do you own at least 100 shares of a stock you're willing to sell at a slightly higher price than its current market value? If your answer is a resounding "Yes!", then you've already cleared the first hurdle for a covered call. This strategy is all about leveraging your existing stock holdings to generate premium income. If you're unsure or new to options, it's crucial to do some preliminary research on options fundamentals and the risks involved before proceeding.
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| How To Place A Covered Call On Etrade |
Understanding the Covered Call: A Quick Primer
A covered call involves two main components:
Owning 100 shares of an underlying stock: This is your "cover" and the reason it's called a "covered" call. Each options contract typically represents 100 shares.
Selling (writing) a call option: You are selling the right, but not the obligation, for someone else to buy your shares at a predetermined price (the "strike price") on or before a specific date (the "expiration date"). In return for granting this right, you receive a payment called the "premium."
The Goal: To collect the premium while the stock either stays below the strike price or expires worthless.
The Catch: If the stock price rises significantly above your strike price, you may be obligated to sell your shares at the strike price, thereby limiting your upside potential beyond that point. This is the trade-off for receiving the premium.
Step 2: Ensuring Your E*TRADE Account is Options-Approved
Before you can even think about placing a covered call, your E*TRADE account needs to be approved for options trading. If you haven't done this already, it's a necessary preliminary step.
Sub-heading: Verifying Your Options Approval Level
QuickTip: Use posts like this as quick references.
Log in to your ETRADE account.*
Navigate to Accounts > Account Settings.
Look for a section related to "Trading Permissions" or "Options Agreement."
You'll need at least "Level 1" or "Level 2" options trading approval for covered calls. If you're not approved, you'll see an option to apply for options trading.
Follow the on-screen prompts to apply. This typically involves answering a few questions about your financial situation, trading experience, and understanding of options risks. Be honest in your answers. E*TRADE, like all brokers, has regulatory requirements to ensure you understand the risks. The approval process can take a few business days.
Step 3: Identifying the Right Stock for Your Covered Call
This is where your research and due diligence come into play. You should select a stock that:
You already own at least 100 shares of.
You are comfortable holding long-term if the option expires worthless or if you don't get assigned.
You believe will likely trade sideways or slightly up/down over the duration of the option contract. A stock you expect to skyrocket might not be the best candidate for a covered call, as you'd be capping your potential gains.
Has a liquid options market. This means there's sufficient trading volume and narrow bid-ask spreads for its options contracts, allowing for easier entry and exit.
Step 4: Navigating to the Options Chain on E*TRADE
Once you've chosen your stock, it's time to find its options chain on E*TRADE.
From your E*TRADE dashboard, go to the Trade tab.
Select Options from the dropdown menu.
In the "Symbol" box, enter the ticker symbol of the stock you're targeting (e.g., AAPL for Apple).
Press Enter or click "Go."
This will bring up the options chain for your chosen stock.
Step 5: Selecting Your Expiration Date and Strike Price
This is perhaps the most critical decision in setting up your covered call.
Sub-heading: Choosing the Expiration Date
Shorter-term (e.g., 1-4 weeks): Generally offers smaller premiums but allows for more frequent income generation and quicker adjustments. Less time for the stock to make a big move against you.
Longer-term (e.g., 1-3 months): Offers larger premiums but ties up your shares for a longer period. More time for the stock to move significantly.
Consider your outlook on the stock. If you expect it to remain relatively stable for the next month, a monthly expiration might be suitable.
Sub-heading: Defining the Strike Price
This is the price at which you are agreeing to sell your shares if the option is exercised.
Tip: Break down complex paragraphs step by step.
In-the-Money (ITM) Strike Price: A strike price below the current market price of the stock. You'll receive a higher premium, but you're more likely to be assigned, and your immediate profit potential is limited.
At-the-Money (ATM) Strike Price: A strike price equal to or very close to the current market price. Offers a good balance of premium and potential for the option to expire worthless.
Out-of-the-Money (OTM) Strike Price: A strike price above the current market price. You'll receive a lower premium, but there's a higher chance the option will expire worthless, allowing you to keep both the premium and your shares. This is often the preferred choice for covered calls as it allows for some upside potential while still collecting premium.
For a typical covered call, you'll generally look for an Out-of-the-Money (OTM) strike price that gives you a comfortable cushion above the current stock price, allowing for some potential appreciation before assignment.
How to find them on E*TRADE:
On the options chain, you'll see various expiration dates listed at the top. Click on the desired expiration date.
Below the expiration dates, you'll see a list of strike prices. The "Calls" section will be on the left, and the "Puts" section on the right.
Look at the "Last" or "Bid" price for the call options at different strike prices to see the premium you would receive.
Step 6: Initiating the Covered Call Order on E*TRADE
Now, let's put it all together and create the order.
In the options chain, once you've identified your desired expiration date and strike price, click on the "Bid" price for the call option you want to sell. This will automatically populate an order ticket.
Alternatively, you can manually build the order:
On the E*TRADE options order entry screen, ensure the "Strategy" is set to "Single Leg."
Under "Action," select Sell to Open. (You are "opening" a new short option position).
For "Option Type," select Call.
Enter the Expiration Date you chose.
Enter the Strike Price you selected.
Enter the Number of Contracts you wish to sell. Remember, 1 contract = 100 shares. So if you own 300 shares, you can sell up to 3 contracts. Make sure you have enough shares to cover the contracts you're selling. E*TRADE will typically detect this and guide you.
Step 7: Specifying Order Details
This is where you define how your order will be executed.
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Sub-heading: Quantity of Contracts
As mentioned, ensure the number of contracts you're selling does not exceed the number of shares you own (divided by 100). For example, if you have 500 shares of XYZ, you can sell a maximum of 5 XYZ call contracts.
Sub-heading: Order Type
Limit Order (Recommended): This allows you to specify the exact premium you want to receive per share. This is highly recommended for covered calls to ensure you get your desired price. If the market is volatile, a market order could fill at an undesirable price.
Enter your desired premium (e.g., $1.50).
Market Order (Use with Caution): This will execute your order immediately at the best available price. While quick, you might not get the optimal premium, especially for less liquid options. Generally avoid for options.
Sub-heading: Time in Force
Day: The order will remain active until the end of the trading day. If it's not filled, it will be canceled.
Good 'til Canceled (GTC): The order will remain active until it's filled, you cancel it, or it expires (typically after 60 days).
For most covered calls, a "Day" order is sufficient. If you're trying to get a specific price and are willing to wait, GTC can be used, but remember to monitor it.
Tip: Keep your attention on the main thread.
Step 8: Reviewing and Confirming Your Order
This is your final check before placing the trade.
E*TRADE will display a summary of your order:
Action: Sell to Open
Underlying: The stock symbol
Option Type: Call
Expiration Date:
Strike Price:
Quantity: Number of contracts
Limit Price: The premium you'll receive per share
Estimated Credit: The total premium you will receive (Limit Price x Quantity x 100).
Carefully review all the details. Double-check the strike price and expiration date to ensure they match your intentions.
E*TRADE will often show a "Covered" indication, confirming that your owned shares are being used to cover the call.
Once you're satisfied, click Preview Order or Review Order.
Read the final confirmation screen, which will often include disclaimers and risks.
Click Place Order to submit your trade.
Step 9: Monitoring Your Covered Call Position
Once your order is filled, the work isn't over! You need to monitor your position.
Sub-heading: Where to View Your Position
Go to Accounts > Portfolio.
You'll see your stock position, and separately, your short call option position. The option position will typically show as a negative number (e.g., -1 for one contract sold).
Sub-heading: Understanding Potential Outcomes
Stock price stays below the strike price: The option will likely expire worthless. You keep the premium and your shares. You can then sell another covered call.
Stock price rises above the strike price:
Before expiration: You might be assigned early, though this is less common unless the option is deep in the money and close to expiration.
At expiration: If the stock closes above the strike price on the expiration day, your shares will be "called away" (sold) at the strike price. You keep the premium, and your shares are sold.
Stock price drops significantly: The option will likely expire worthless, and you keep the premium. However, your stock will have depreciated in value. The premium only partially offsets this loss.
Sub-heading: Managing Your Position
Letting it Expire: If the option is out-of-the-money and approaching expiration, you can simply let it expire worthless.
Buying to Close: If the stock drops or time decay makes the option very cheap, you can "buy to close" the option before expiration. This eliminates your obligation to sell your shares and allows you to potentially sell another covered call with a different strike or expiration. You'll pay a small premium to buy it back, but it could be much less than what you received, netting you a profit.
Rolling the Option: If the stock is moving towards your strike price and you don't want to sell your shares, you can "roll" the option. This involves buying to close your current call and simultaneously selling a new call with a later expiration date and/or a higher strike price. This usually involves paying some premium to buy back the old contract but receiving more for the new one, ideally for a net credit or small debit.
Step 10: Learning from Each Trade
Every covered call you place, regardless of the outcome, offers valuable lessons.
Did you pick the right strike price?
Was the expiration date optimal?
How did the stock behave relative to your expectations?
Keep a trading journal to track your covered call trades, premiums received, and outcomes. This will help you refine your strategy and become a more proficient options trader.
QuickTip: Don’t rush through examples.
10 Related FAQ Questions
How to get options approval on E*TRADE? You can apply for options approval by logging into your E*TRADE account, navigating to "Accounts" > "Account Settings," and looking for "Trading Permissions" or "Options Agreement." Follow the prompts to complete the application.
How to choose the best stock for a covered call? Choose a stock you already own, are comfortable holding long-term, expect to trade sideways or slightly up/down, and that has a liquid options market with tight bid-ask spreads.
How to determine the right strike price for a covered call? For most covered calls, an Out-of-the-Money (OTM) strike price is preferred. This means choosing a strike price above the current stock price, allowing for some upside potential while still collecting premium.
How to select the ideal expiration date for a covered call? Consider your short-term outlook on the stock. Shorter-term options (1-4 weeks) offer smaller premiums but more flexibility, while longer-term options (1-3 months) offer larger premiums but tie up your shares longer.
How to calculate the maximum profit of a covered call? The maximum profit is the premium received plus the difference between your cost basis of the stock and the strike price (if assigned). If not assigned, it's simply the premium received.
How to avoid early assignment of a covered call? While you can't guarantee avoiding early assignment, it's less common for OTM calls. If the stock goes deep in the money, buying back the call to close the position or rolling it to a later expiration/higher strike can mitigate this.
How to close a covered call on E*TRADE before expiration? To close a covered call, you would perform a "Buy to Close" order on the same option contract. Go to your portfolio, find the short call position, and select "Close" or "Buy to Close."
How to roll a covered call on E*TRADE? Rolling a covered call involves two steps: "Buying to Close" your current short call and simultaneously "Selling to Open" a new call with a later expiration date and/or a higher strike price. E*TRADE often provides a "Roll" function within the options chain or portfolio view to simplify this.
How to manage a covered call if the stock drops significantly? If the stock drops significantly, the call option will likely expire worthless, and you keep the premium. However, the premium will only partially offset the depreciation in your stock's value. You can then sell another covered call on your existing shares if you choose.
How to re-evaluate my covered call strategy after a trade? Keep a detailed trading journal. Analyze whether your chosen strike price and expiration date were optimal, how the stock performed relative to your expectations, and the overall profitability (or loss) of the trade to refine your future strategy.
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