Chapter 02 · Combining option positions
Owning shares and selling a call
Selling a call against shares you already own is an agreement to sell those shares at the strike if the call ends up in the money, in exchange for a premium today. This chapter prices that agreement properly and separates it from selling a call with nothing behind it.
The covered version
You own 500 shares, bought at ₹180. The lot size of the call is 500. You sell one call at a strike of ₹200, expiry in a month, and you receive a premium of ₹6 a share, so ₹3,000 for the lot, before charges. You have agreed, if assigned or if you close the short call at expiry in the money, to give up the gains above ₹200. You keep the premium either way.
Three regions at expiry matter.
| Share price at expiry | What the shares did | What the short call did | Together, versus owning the shares alone |
|---|---|---|---|
| ₹170 | Loss of ₹10 from 180, or ₹5,000 | The call expires, you keep ₹3,000 | You are down about ₹2,000 instead of ₹5,000. The premium cushioned the fall. It did not stop it. |
| ₹190 | Gain of ₹10, or ₹5,000 | Call expires, you keep ₹3,000 | You are ahead by about ₹8,000. The call never became a duty. |
| ₹230 | Gain of ₹50, or ₹25,000 | You are short a call that is ₹30 in the money. You give up that ₹30, partly offset by the ₹6 you received | Your effective sale is near ₹206, not ₹230. The extra ₹24 a share happened to someone else. |
The breakeven on the shares-plus-call, measured from the original ₹180, is improved by the premium: a fall hurts less by about ₹6. The upside is capped. If your reason for holding the shares was ‘it might be worth ₹300 if the new plant works’, selling the ₹200 call sold the outcome you were waiting for. If your reason was ‘I will be happy to sell at ₹200 this month’, the call paid you to write down a decision you had already made.
The uncovered version is not a braver cousin
Selling the same call without the 500 shares is a different position. In the ₹230 outcome you still owe the ₹30, and you have no shares that gained ₹50 to pay for it. The loss grows as the share price rises, for as long as you leave the call open. Margin will be substantial precisely because that loss is not capped by a holding. Do not let the phrase ‘covered call’ stick to a short call that the demat account cannot cover. Cover is a fact about shares held, not a setting in the order window.
What the premium is paying you for
The ₹6 is not free income. Part of it is the intrinsic gap if the call is already in the money — it was not, in this example, because ₹200 is above ₹180. Part of it is payment for time and for the chance of a large rise. When you sell it, you are selling that chance. Over many months, a habit of selling calls against shares you wanted to keep will, in a strong market, systematically sell your winners and leave you holding the stocks that never reached the strike. That outcome is the strategy working as designed. Judge it against the income you received, not against the winner you no longer own.
Practical constraints
- The share quantity should match the lot. Five hundred shares against a 500 lot is covered. Three hundred shares against a 500 lot is half a story and a naked quarter.
- Early assignment is less central in markets that settle options in cash at expiry, but corporate actions and contract specifications still change the obligation. Read the specification before you rely on ‘it only matters on Thursday’.
- Charges apply to the option and, if the shares are delivered or sold, to the shares. The ₹3,000 premium is a gross number.
- If the shares fall far enough that you no longer want them, the short call is a small comfort and the shares are still your problem. The call is not a stop-loss.
What to remember
- A covered call is a decision to sell the shares at the strike, paid for in advance by the premium.
- Below the strike you keep the shares and the premium. Above it, you have sold the extra upside.
- The same short call without the shares has no cap on the loss.
- Match the lot size. Partial cover is partial nakedness.
- In a strong rise, this strategy sells the thing that worked. That is the exchange you signed.