Covered calls represent a popular investment strategy that enables investors to generate regular income by selling options on shares they have already purchased. This approach appeals to investors seeking to minimize risk and earn stable returns in the market.
The primary advantage of the covered call writing strategy is the ability to generate income without having to sell the underlying shares. Instead, investors can collect premiums from the sale of covered call options, making the method suitable for both long-term shareholders and those who want to earn additional income from price movements.
This article discusses the best stocks for covered calls, their key features, selection criteria, and optimal strategies for utilizing this tool effectively.
The article covers the following subjects:
Major Takeaways
Covered calls enable investors and traders to generate income by selling options without needing to actively trade stocks.The best covered call stocks have stable prices, high dividend yields, and moderate volatility.There are two approaches to the strategy: traders should choose between maximizing premiums and minimizing risk.Suitable underlying assets for the strategy include dividend stocks of large companies and technology giants.Alternative covered call strategies include options on exchange-traded funds (ETFs) to diversify the portfolio.
Market Outlook for Covered Calls in 2025
In 2025, the market remains moderately volatile. Covered calls remain a sought-after strategy for generating profits and hedging risk, especially on stocks with predictable price movements and attractive dividend yields.
Apple Inc. (AAPL)
Apple Corporation has an attractive share price, high liquidity, and reliable financial performance, making it an excellent choice for a covered call strategy. Apple shares exhibit steady growth, stable dividend payouts, and a liquid options market, providing investors with the opportunity for a stable income stream with a low risk threshold.
Microsoft Corp. (MSFT)
Microsoft is a technology behemoth with an outstanding market capitalization and stable financial performance. The company is a prominent and long-standing leader in financial markets. Thanks to strong demand for its products and services, MSFT shares demonstrate moderate volatility and sustainable gains. The high liquidity of options makes the company’s shares attractive to investors who employ covered call strategies.
Johnson & Johnson (JNJ)
Johnson & Johnson is one of the world’s largest pharmaceutical and medical companies, known for its stability and strong financial health. Its shares exhibit low volatility, which reduces the risk associated with selling covered call options. High dividend yield makes JNJ an attractive asset for investors seeking to generate additional income through covered call strategies.
ExxonMobil (XOM)
ExxonMobil is one of the world’s largest oil and gas corporations, distinguished by its strong financial position and stable cash flow. Its shares are attractive to investors focused on long-term income due to their high liquidity and moderate volatility. The opportunity to receive regular option premiums without significant risk makes it an excellent choice for various option trading strategies.
Procter & Gamble (PG)
Procter & Gamble is a large consumer brand boasting low market volatility, stable fundamentals, and regular dividend payments. In addition, PG shares offer high liquidity and dividend growth, making them attractive for receiving premiums from covered calls. The stock is an excellent option for conservative investors seeking predictable returns from an underlying asset.
Two Primary Approaches to Covered Call Stock Selection
When selecting stocks for covered calls, it is essential to outline your investment goals and assess your risk tolerance. There are two main approaches: the high-premium strategy, which is used for stocks with higher volatility, and the conservative approach, which is used for more stable dividend stocks.
High-Premium Strategy
The high premium strategy involves selling covered call options on stocks that are highly volatile and prone to wide price swings. High volatility increases the value of the option premium, providing a higher return on the sale of option contracts. However, this method also carries additional risks, as the stock price may rise sharply, which could result in lost profits if the underlying asset continues to appreciate.
Examples of stocks for this strategy:
Tesla (TSLA) offers high volatility and significant demand for options.NVIDIA (NVDA) represents a growing AI hardware sector and a liquid options market.
Conservative Strategy
This method focuses on selecting types of stocks with low volatility, stable dividend yields, and predictable performance. The main goal of this approach is to receive an option premium with minimal risk of lost profits and possible liquidation of positions.
Examples of stocks for a conservative approach:
Johnson & Johnson (JNJ) has stability and a high dividend yield.Procter & Gamble (PG) offers low volatility and predictable growth.
When choosing between the two approaches, you should consider your strategy, leading to a maximum premium or stable returns. As a rule, high volatility of the underlying asset offers a higher premium, and conversely, low volatility and high predictability yield lower returns. Essentially, buying or selling options contracts is all about trading market volatility, and the ability to predict its changes is the key to success.
Investors using a covered call strategy should understand that the premium received from selling the option not only provides additional income but also compensates for losses in the event of a decline in the price of the underlying asset. Alternatively, the premium received from selling the covered call can be used to purchase a put option, which will protect the investment from a sudden decline in price.
Characteristics of Ideal Stocks for Covered Calls
When selecting the best stocks for a covered call strategy, it is essential to choose those that meet several criteria to ensure stable returns, minimize risk, and manage your option strategies effectively. Let’s review the key features of these assets.
High Dividend Yield
Dividend yield and payment frequency are among the key factors when selecting stocks. Companies that pay stable and high dividends offer additional income, making investing in them more attractive. In addition, dividend payments can offset potential losses if the stock price falls or the option contract is exercised.
For example:
ExxonMobil (XOM) exhibits steady dividend growth, backed by its oil and natural gas production and refining operations.Johnson & Johnson (JNJ) is a reliable Dividend Aristocrat.
Moderate or Low Market Volatility
To collect premiums, long positions in stocks should display predictable performance in the market. Excessive market volatility can trigger significant price fluctuations and prompt the early exercise of options, thereby limiting potential profits. Stocks that demonstrate moderate price fluctuations are often the optimal choice.
For example:
Procter & Gamble (PG) has posted stable gains over several years, boasting a high market cap and paying dividends regularly.Coca-Cola (KO) features low volatility and steady dividend growth.
High Liquidity in Options Market
High liquidity means that option contracts can be bought and sold at prices close to their fair market values, thereby reducing costs. Higher liquidity translates to a smaller spread between purchase and sale prices, enhancing the efficiency of trading operations.
For example:
Apple (AAPL) is one of the most liquid options markets.Microsoft (MSFT) has consistently attracted high investment demand.
Solid Financial Performance
The ideal stocks for covered calls belong to companies with solid financials, low debt, stable cash flow, and predictable revenue growth. These companies offer investors predictability and security.
For example:
Berkshire Hathaway (BRK.B) offers high financial stability.Johnson & Johnson (JNJ) displays stable performance and a strong balance sheet.
Prospective Growth in Share Value
Although a covered call strategy primarily generates income from option premiums, it is important that the share price has growth potential. That way, you can reduce risks and earn additional income from an increase in market value.
For example:
NVIDIA (NVDA) has growth prospects in the field of artificial intelligence.Microsoft (MSFT) boasts innovative development and a long-term increase in capitalization.
Stocks that meet these criteria allow you to effectively use covered calls, minimize risks, and enjoy a stable income stream.
Stock Selection Criteria
When picking stocks for a covered call strategy, you need to take a systematic approach and do a thorough analysis using screening services. Investors should consider key financial indicators, volatility, option liquidity, and dividend yield stability when deciding to sell options against a long position. Let’s take a look at the main criteria that will help you select the best assets for trading.
1. Dividend Yield
One of the key factors when choosing a stock is its dividend yield. Companies with regular dividend payments provide investors with additional income, which is especially important when selling covered calls. Perfect stocks have a dividend yield above the market average of 2%. For example, you can consider Johnson & Johnson (JNJ), Procter & Gamble (PG), and ExxonMobil (XOM).
2. Implied Volatility
Volatility determines the size of the premium received for writing covered calls. Excessive volatility increases the risk of forced contract execution. Insufficient volatility reduces the strategy’s profitability. In this regard, it is better to opt for stocks with moderate volatility, such as Microsoft (MSFT), Coca-Cola (KO), and Procter & Gamble (PG).
3. Option Liquidity
High liquidity allows option contracts to be bought and sold easily with minimal costs. Stocks should have active option markets with narrow spreads between the bid and ask prices and values close to the fair value of the option. Such stocks include Apple (AAPL), Microsoft (MSFT), and NVIDIA (NVDA).
4. Financial Sustainability
Companies with solid financials are less vulnerable to crises, making them a good fit for option trading strategies. When choosing stocks to write covered call options, it is important to consider:
low debt load;stable cash flow;projected revenue and earnings growth.
Examples of such stocks include Berkshire Hathaway (BRK.B), Johnson & Johnson (JNJ), and Procter & Gamble (PG).
5. Share Price Growth
High share price growth potential reduces the risk of significant drawdowns. Companies with strong fundamentals and resilient business models tend to be more predictable. This category includes stocks such as Microsoft (MSFT), Alphabet (GOOGL), and Apple (AAPL).
These criteria allow investors to select stocks that will generate additional income while minimizing risk and maximizing the performance of their options strategy.
Technical Considerations for Covered Calls
The covered call strategy involves selling call options on stocks already held in a portfolio, allowing you to generate extra profit from the premium, reduce overall risk, and create additional returns. Let’s examine the key technical aspects of this strategy.
1. How Options Contracts Work
A call option gives the buyer the right, but not the obligation, to purchase shares at a predetermined strike price upon the contract’s expiration. In some cases, depending on the type of option, a call option allows the buyer to exercise this right before the option expires. The owner of a covered call receives a premium for selling this right. If the price of the underlying stock remains below the strike price, the investor retains the shares and receives the premium income. If the price exceeds the strike price, the shares may be forcibly sold after the expiration date of the option contract.
2. Margin Requirements
An investor must have margin collateral to cover potential losses when selling call options. However, the presence of the underlying stock in the investor’s portfolio may not be sufficient, especially if market volatility or the price of the underlying stock rises rapidly.
The problem worsens if the call option is sold and the stock is purchased on different trading accounts. In this case, the potential loss from the increase in the option premium will not be formally covered by the increase in the market price of the underlying security, which may lead to the liquidation of the option contract due to insufficient margin coverage. However, the premium income received for the sold option will remain with the investor in any case.
3. Strategic Considerations
There are three states of an option: “out-of-the-money,” “in-the-money,” and “at-the-money,” which are determined by the position of the underlying price relative to the strike price. An investor should correctly choose the strike price at which the price of the underlying asset will be as close as possible to the strike price, but at the same time, the sold call option will remain out-of-the-money.
Choosing the strike price. The optimal strike price should be higher than the current market price in order to balance the return on the premium and the potential profit from the stock’s growth.Expiration date. The optimal time frame for exercising an option is 30-45 days, as this period maintains the optimal risk/reward ratio.Execution risk. If the underlying stock rises rapidly and the sold call option becomes in-the-money, the investor may lose the opportunity for further portfolio growth, as the shares will be sold at the strike price.
Proper management of these factors enables investors to maximize profits and minimize the risks associated with covered call strategies.
Alternative Covered Call Strategies
Although covered call options on stocks are a popular strategy among investors, there are alternative approaches that allow you to diversify risk, increase portfolio management flexibility, and tailor your strategy to different levels of experience and investor requirements.
1. Covered Call on ETF
Exchange-traded fund (ETF) options enable investors to employ a covered call strategy on a diversified underlying asset, rather than on individual stocks. This reduces volatility and decreases unsystematic risk, as ETFs typically encompass a portfolio of several companies.
Popular ETFs for selling covered calls:
SPY (S&P 500 ETF). Broad exposure to the US stock market.QQQ (Nasdaq 100 ETF). High-tech sector.DIA (Dow Jones ETF). Stable blue chips.
Covered calls on ETFs are particularly suitable for conservative investors who want to mitigate the risks associated with trading individual stocks.
2. Collar Strategy
The essence of this strategy is to buy a protective put and sell a covered call simultaneously. The purchased put limits losses if the stock price declines, and the sold covered call reduces the cost of protection against a decline, paid when purchasing the put. This strategy has two disadvantages: it limits the potential for the stock price to rise and reduces the premium amount.
The choice of a suitable alternative strategy depends on the investor’s objectives, risk tolerance, and level of experience. Novice investors should avoid complex strategies that carry the risk of position liquidation or losses.
Dividend Stocks and Covered Calls
Using dividend stocks in combination with covered call options is one of the most sustainable strategies for investors seeking passive income and reduced risk. This approach enables investors to earn income from both option premiums and dividend yields, making it particularly appealing in times of market uncertainty.
How Strategy Works
When purchasing dividend stocks, investors receive dividend payments, which already creates a stable cash flow. Writing call options on these stocks allows investors to receive premiums, thereby increasing the overall return on the portfolio.
Advantages of using dividend stocks in covered calls:
Dual source of income. Investors receive dividends and additional income from selling options.Reduced volatility. Large dividend-paying companies are generally less vulnerable to sharp market fluctuations.Optimization of returns. Even if the stock price remains at the same level, the investor continues to earn option premiums and dividends.Hedging against price declines. Option premiums received can offset a decline in the stock price.
Examples of Suitable Stocks
Some companies offer high and stable dividends, making them perfect for this strategy. For example:
Johnson & Johnson (JNJ) is a company known for its reliable dividend payments and low volatility.Procter & Gamble (PG) is a well-established consumer brand with a history of stable dividend payments.ExxonMobil (XOM) pays high dividends and decent call option premiums.
The combination of dividend stocks and covered calls is ideal for conservative investors seeking a stable income and risk reduction. This approach provides a reliable cash flow, makes investments less volatile, and allows you to maximize profits with a balanced level of risk.
Investor Suitability and Risk Management
Investors should consider their financial goals, risk tolerance, and experience with option contracts when choosing a covered call strategy. It is crucial to determine your threshold for potential losses and how this strategy aligns with your broader financial objectives before implementing it.
Risk Tolerance Assessment
Before using covered calls, investors should ask themselves a few questions:
Are you prepared to sell your shares if their price rises above the strike price?How comfortable are you with limited profits?What level of volatility is acceptable to you?Do you plan to use covered calls as your primary or secondary strategy?
If an investor is seeking stable income and is willing to limit the potential growth of their shares, covered calls may be a good solution. However, for those who are focused on long-term capital appreciation, this approach may seem too conservative.
However, you can choose a strategy based on your investor profile:
Conservative investors choose stocks with low volatility and high dividend yields, using covered calls to increase overall returns and reduce losses.Moderate investors combine covered calls with asset diversification, choosing stable corporations and exchange-traded funds (ETFs).Aggressive investors prefer stocks with high volatility, maximizing option premiums and increasing returns, but taking on greater risk of option exercise.
Success in covered call trading depends on competent risk management. It is essential to consider your financial goals, minimize excessive exposure, and adjust your strategy to current market conditions.
Conclusion
A covered call option is an effective investment strategy that allows you to earn a stable income while reducing risk, but it also limits potential capital growth. The choice of suitable stocks plays a crucial role in this strategy: the stocks should exhibit moderate volatility, have a high dividend yield, and be liquid in the options market.
There are two main approaches: maximizing premiums on volatile assets and a conservative approach focused on stability. Exchange-traded funds (ETFs), diversified portfolios, and sound risk management help tailor the strategy to any financial goal.
With a reasonable approach, covered calls are a reliable tool for obtaining stable profits and minimizing losses. However, investors should remember that selling call options without simultaneously covering the underlying asset can result in unlimited losses.
Best Stocks for Covered Calls FAQs
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