A covered call is a popular options trading strategy where an investor owns the underlying asset (like Bitcoin or Ethereum) and simultaneously sells a call option on that same asset. The strategy generates income through the premium received from selling the call option. However, in exchange, the investor limits their potential gains if the asset's price rises beyond the call option's strike price.
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- Start your crypto journey with ease—open an account on CoinDCX here!
- For Indian users, start trading crypto options on Delta Exchange India.
- For global users, explore Delta Exchange.
- Alternatively, try Binance for advanced crypto options trading worldwide.
Definition
A covered call involves holding a long position in an asset while selling a call option on that asset. It aims to profit from neutral to slightly bullish market conditions, where significant price increases are not expected.
Key Components
- Underlying Asset: The investor must own the cryptocurrency (e.g., Bitcoin) on which they are writing the call.
- Call Option: The investor sells a call option, granting the buyer the right to purchase the cryptocurrency at a specified strike price before the expiration date.
When to Use
Covered calls are ideal when the market is neutral to slightly bullish. The strategy works well in a scenario where the price is expected to remain stable or increase modestly because the premium from selling the call can enhance returns, while the risk of losing potential upside beyond the strike price is accepted.
How to Enter the Trade
- Select the Underlying Asset: Choose the cryptocurrency you own, such as Bitcoin (BTC).
- Choose the Strike Price: For a covered call, pick a strike price slightly above the current price of the asset.
- Set Expiration Date: Short-term options (weekly or monthly) are typically used, depending on market conditions and volatility.
Example Scenario
Let’s say you own 1 BTC priced at $30,000, and you sell a call option with a strike price of $32,000. The buyer of the call pays you a premium. If BTC’s price stays below $32,000 by the expiration date, you keep both your BTC and the premium.
If the price exceeds $32,000, the buyer will exercise the call, and you will be forced to sell your BTC at $32,000. In this case, your upside is capped, but you still benefit from the premium and the initial price increase from $30,000 to $32,000.
Payoff Diagram:
Here is the payoff diagram for a covered call strategy:
- Holding BTC: The blue dashed line shows the potential payoff if you simply hold Bitcoin (bought at $30,000).
- Covered Call: The green line represents the payoff when selling a call option with a strike price of $32,000 and receiving a premium of $500. The maximum profit is capped at $32,000, beyond which the gains do not increase due to the call being exercised.
The chart highlights how the covered call provides additional income (from the premium) but limits the upside beyond the strike price.
Scenario 1: If the price of BTC remains below $32,000 at expiration, the call option expires worthless. You keep the premium and the BTC, gaining a total of $500 in addition to any minor appreciation in BTC price.
Scenario 2: If BTC rises above $32,000, the buyer of the call option will exercise it, and you’ll sell your BTC at the strike price. Your total gain will be capped at $32,000, plus the $500 premium. Any further price appreciation beyond $32,000 is not yours to benefit from.
When to Exit
Exiting a covered call position can be considered in these scenarios:
- Price Rises Above Strike: The call will likely be exercised, and you will sell your cryptocurrency at the strike price. You may wish to exit early by buying back the call option, but this would reduce your profits.
- Price Falls: If the price drops significantly, you still own the underlying asset but miss out on selling the asset at a higher price.
Holding Period
Typically, the holding period depends on market conditions and the expiration date of the option. In volatile markets, short-term options are preferred. In stable or slightly bullish markets, longer-term options may provide better returns.
Conclusion
A covered call strategy in crypto options trading provides a way to generate additional income from owned assets. However, this comes with limited upside potential and should only be used in neutral or slightly bullish markets. Risk management involves understanding the potential loss scenarios and adjusting the strike price and expiration dates accordingly.
Call to Action
To start exploring covered call strategies in the crypto market, open an account with a trusted trading platform:
- For Indian users, start trading crypto options on Delta Exchange India.
- For global users, explore Delta Exchange.
- Alternatively, try Binance for advanced crypto options trading worldwide.
Visual Aids and Mind Maps
To help with understanding, here are some additional tools:
Risk Management in Covered Calls
Downside Protection: One of the key advantages of a covered call is the premium received, which offers some downside protection. If the price of BTC falls, the premium partially offsets the loss.
Limited Upside: The strategy caps your profit potential since you are obligated to sell your BTC if the price rises above the strike price. This limitation is critical in markets where significant upward momentum is possible.
Liquidity Considerations: Ensure that the options you trade are in liquid markets, so exiting or rolling over positions is efficient and cost-effective.
Adjusting Strike Prices: You can manage risk by adjusting the strike price. A higher strike price allows for more potential gain but yields a lower premium. A lower strike price generates a larger premium but limits the potential for price appreciation.
For a hands-on experience, start trading on
Start your crypto journey with ease—open an account on CoinDCX here!
For Indian users, start trading crypto options on Delta Exchange India.
For global users, explore Delta Exchange.
Alternatively, try Binance for advanced crypto options trading worldwide.
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