Covered Call

Understanding a 'Covered Call' in Crypto Option Trading

The term 'Covered Call' is a commonly used phrase in the realm of option trading with cryptocurrencies. It is a strategy where the holder of the cryptocurrencies sells call options against their holdings. This serves a dual purpose of generating income, usually in the form of a premium, and potentially offloading the owned coins if the price rises and they get called away.

Breaking Down a 'Covered Call'

The term 'Covered Call' breaks down essentially into two parts: 'Covered' and 'Call'. 'Covered' in this context means you already own the cryptocurrencies. 'Call' refers to the financial contract, or option, that gives the call option buyer the right, but not the obligation, to buy a certain amount of cryptocurrency at a set price, called the 'strike price', within a specific period.

How a 'Covered Call' works

In a 'Covered Call' strategy, you, as the trader, sell a call option against the cryptocurrencies you hold. You receive a premium from the buyer of the call option. This premium is yours to keep, regardless of future price movements. However, if the price of the cryptocurrency exceeds the strike price, the buyer of the call option has the right to buy your cryptocurrencies at the strike price, thus potentially requiring you to sell your holdings at below-market value.

Why Employ a 'Covered Call' Strategy?

This strategy is used when you have a neutral view on the market and believe that the price of the cryptocurrency will remain relatively stable or may decrease slightly. The premium collected from selling a 'Covered Call' can help buffer some potential loss if the price falls. Another key benefit is income generation- as you receive premium payments from selling the option, regardless of whether it gets exercised or not.

Key Risks with 'Covered Calls'

Like any investment strategy, 'Covered Call' option trading isn't risk-freeness. The risk lies when the price of the cryptocurrency surges. Remember, if the price exceeds the strike price, the buyer of the call option can buy your cryptocurrencies at the strike price. Therefore, you could miss out on potential profits if the price skyrockets and the buyer exercises their call option.

Conclusion

'Covered Calls' can be a viable option trading strategy in the cryptocurrency space, especially for generating extra income or for trying to hedge against slight price declines. As with any trading strategy, it's essential to understand how 'Covered Calls' work, their potential benefits, and their risks, before diving in.