A Covered Call is a strategy where you hold the underlying (e.g., NIFTY or BANKNIFTY Futures) and sell a call option at a higher strike price to earn premium income. This strategy works best when the underlying price is expected to rise slightly but stay below the strike price.
- Ideal for moderately bullish conditions, where a modest price increase is expected.
- Selling a call 1-2% OTM from the current price provides good premium income and lower risk.
- Generates additional income from the premium, with limited downside protection from the premium received.
- Maximum profit occurs if the underlying closes at or below the strike price, with profit being the premium plus any price appreciation up to the strike price.
- Risk arises if the price drops significantly, as losses in the underlying are only partially offset by the premium.
Example:
- NIFTY trading at 18,000.
- You hold 1 lot of NIFTY Futures (lot size = 50) at 18,000.
- Sell 18,300 Call (OTM) at ₹100 with a near-month expiry.
- Outcome:
- If NIFTY stays below 18,300 at expiry:
- The call option expires worthless.
- You retain the ₹5,000 premium (₹100 × 50).
- If NIFTY rises to 18,400 at expiry:
- Your futures are capped at 18,300 due to the call, earning ₹15,000 on futures and the ₹5,000 premium.
- Effective profit = ₹20,000.
- If NIFTY falls to 17,800 at expiry:
- Loss on futures = ₹10,000.
- Net loss = ₹10,000 − ₹5,000 = ₹5,000.
- If NIFTY stays below 18,300 at expiry: