The Covered Call – what do you do if you get capped?

A quick note, was amazed on the variety of meanings for “getting capped” via a Google search:

Now on to the trading related version of “getting capped”. When you have a long position, one of the key ways to protect the gains against a downside move is to initiate an Option Collar. A Collar is where you sell an upside Call against the long stock position, and then buy a downside Put.

Another strategy is to just sell the upside call, thus creating a Covered Call. But what happens when price moves up through the Call strike? This is where your gain gets “capped”. So when that happens, what do you do?

Here are a few scenarios using my current $DE trade as an example of what to do if your long stock position has a capped gain currently:

  • I am long the stock
  • I have sold the November 30 weekly 85 Call against it (so it is a covered call)

Price is currently arm wrestling the $85 level and looks very interested in breaking up through it. Here are my potential paths to take:

  • Do nothing. ride the trade until expiration this Friday then decide.
  • Buy back the 85 Call and sell a Call one strike higher for this week. Not likely a good option given the $2.50 spread between each strike.
  • Wait until Thursday to decide on what to do. If I can, buy back the Call for this week and sell an appropriate Call for the new weekly’s that are available then.
  • Since the stock could be called away at any time, this is always a path that can get chosen for me.

 

  • http://www.gordonbowman.com/ Gordon Bowman

    Is this a short term position? Just wondering the rationale for using the weekly calls instead of monthly?

    • 1nvestor

      much shorter time frame is most appropriate as the bulk of the move is done. For any LT or IRA positions, I use monthly as a rule but don’t avoid weekly if there is a sudden quick move that can be taken advantage of.