Covered option

Covered option

Option position that is offset by an equal and opposite position in the underlying security. Antithesis of naked option.

Copyright © 2012, Campbell R. Harvey. All Rights Reserved.

Covered Option

A situation in which an investor writes an option while holding an equal and opposite position on the underlying asset. A covered call option occurs when the investor owns the underlying asset and writes a call so that the underlying is on hand to sell to the option holder if the option is exercised. A covered put option occurs when the investor writes a put and has enough cash to cover the strike if the put is exercised. It is thought that utilizing covered options is a beneficial tactic, as the investor may profit from the option premium.

Farlex Financial Dictionary. © 2012 Farlex, Inc. All Rights Reserved

Covered option.

When you sell call options on stock that you own, they are covered options. That means if the option holder exercises the option, you can deliver your stock to meet your obligation if you are assigned to complete the transaction.

Similarly, if you sell put options on stock and have enough cash on hand make the required purchase if the option holder exercises, the options are covered. Covered puts are also known as cash-secured puts.

One appeal of selling a covered call is that you collect the premium but don't risk potentially large losses. Otherwise, you may have to buy the stock at a higher market price in order to meet your obligation to deliver stock at the strike price if the option is exercised.

The downside is that if your stock is called away from you, you'll no longer be in a position to profit from any potential dividends or increases in price.

Dictionary of Financial Terms. Copyright © 2008 Lightbulb Press, Inc. All Rights Reserved.