Are options safer than choosing individual stocks

Money blog -

Demanding models: For strategies with «calls», small investors should seek professional advice. (Photo: iStock)

My stock market knowledge is limited to buying and selling individual stocks via e-banking. What are “covered calls” and how do I use them? R.K.

You are addressing an investment strategy that is quite popular with some investors. Thanks to this, you can improve the return on your shares if things go well. Specifically, in addition to the possible price growth and the expected dividends, as you know them with stocks, you can use this technique to earn an additional premium and thus increase the overall return - provided that the chosen strategy really works, which of course is by no means certain.

In technical jargon, one does not usually speak of a covered call, but in Anglo-Saxon terms a “covered call”. With this strategy, you write a call option with a strike price above the underlying asset.

For example, you own UBS shares and write a call option with an exercise price a few francs above the current price. Because you own the underlying value of the call option, it is known as a covered call. With the covered call you have written, you give a buyer of your call the right, but not the obligation, to acquire the underlying asset in your possession at the price and time specified in advance. For this you will be compensated by the buyer with a bonus. The buyer can therefore buy UBS shares from you at the specified price and time.

This strategy is particularly interesting in sideways-trending markets when it is difficult to generate a reasonable return. If the price rises, you have to sell the underlying and then of course no longer participate in the possible further rise in the underlying.

However, this strategy offers no protection against falling prices. If the price of your underlying asset collapses, the option expires. The buyer will not redeem the option because he has only acquired a right and not an obligation. You have at least the premium, but still sit on book losses with the underlying. But if the share price falls, you would do that without the covered call.

This strategy is therefore not a hedge, but simply a way to achieve more returns with the existing equity positions. If you want to hedge your stocks because you expect further turbulence in the stock markets in the next few weeks and months, I would rather recommend that you buy put options yourself. You can use these to hedge individual stocks or a specific market against price drops. But then you pay a premium yourself. That is, in effect, your insurance premium.

In my opinion, this only makes sense if you want to use it to speculate on falling markets or if you absolutely need the money invested in the specific stocks at a certain point in time. If, on the other hand, you have a long investment horizon of five or more years for your stocks, which I recommend, price fluctuations no longer play such a big role anyway.

For the implementation of strategies with calls or puts, you should seek professional advice from your bank, who will show you the advantages and disadvantages based on your custody account.

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