What it means
Two trades happen together, which is why the strategy has a name of its own. The shares are bought in the normal way, and the call option is written, meaning sold, against them.
Because the shares are already owned, the obligation to deliver them is covered and no further collateral is required. The attraction is income from a holding that is expected to go nowhere much.
The premium received lowers the effective cost of the shares immediately, and if the share price stays below the option's strike price the option expires worthless and the premium is kept. Many investors repeat the exercise each month or quarter on the same holding.
The cost is the upside. If the share price runs well above the strike price the shares are called away at that strike, so the holder keeps the premium but misses the rest of the rise.
In a strongly rising market a buy-write will reliably trail simply owning the shares. Downside protection is limited and often overstated.
If the share falls, the premium cushions the loss by exactly the amount received and no more, so the position still suffers most of what the shares suffer. Anyone wanting real protection needs to buy a put option rather than sell a call.
Tax and accounting treatment deserves a look before starting. Premium income, dividends and the eventual gain on the shares may all be taxed differently in the investor's jurisdiction, and the rules on when a written option is recognised can move reported profit between periods.
The strategy is widely packaged into funds that run it mechanically on a whole index. Those funds are a useful way to see the pattern in practice: steadier income, lower peaks, and a long-run result that depends heavily on how calm markets have been.
In practice
Real-world examples.
Example
A retired investor holds 2,000 shares of a utility she has no intention of selling and writes three-month calls 8% above the current price each quarter. The premiums add roughly 4% a year to her income, and in the one quarter the shares jump she is called away and buys back in at a higher price.
Example
A corporate treasury holds shares received from the sale of a subsidiary and is not allowed to sell them for six months. It writes calls at a strike slightly above the price it would happily sell at, earning $140,000 of premium over the lock-up period.
Example
A charity endowment allocates 10% of its equity holdings to a buy-write fund to raise predictable cash for grant payments. The trustees accept in writing that the allocation will underperform in a sharply rising market, which is exactly what happens in the following year.
Formula
Calculation
Net cost per share = share purchase price - option premium received
Maximum profit per share = strike price - net cost per share
An investor buys 1,000 shares at $50.00, a cost of $50,000, and writes call options over those shares at a strike price of $55.00, receiving a premium of $2.00 per share, or $2,000 in total. The net cost per share is 50.00 - 2.00 = $48.00, so the breakeven share price is $48.00 and the maximum profit per share is 55.00 - 48.00 = $7.00. If the shares are called away at $55.00 the proceeds are $55,000, and adding the $2,000 premium gives 55,000 + 2,000 = $57,000 against the $50,000 paid, a profit of $7,000 or 14% of the original outlay. If instead the shares finish at $49.00 the option expires worthless and the position is worth 49,000 + 2,000 = $51,000, which is $1,000 more than it cost, while a fall to $40.00 leaves 40,000 + 2,000 = $42,000 and a loss of $8,000.Case study
Seen in the real world.
Northbeck Family Office is an illustrative, fictional investment office managing $85,000,000 for three generations of one family. The older members needed roughly $2,500,000 a year in cash, and selling shares each quarter to produce it felt arbitrary to everyone involved.
The office set up a buy-write sleeve of $25,000,000 across eight large, stable holdings, writing calls about 7% above the market with three months to expiry. In the first year the sleeve produced $1,400,000 of premium income and had shares called away twice, both times at prices the office was content to sell at.
In the second year markets rose 22% and the sleeve returned 11%, which triggered a difficult family meeting. The illustrative lesson is that a buy-write converts uncertain capital growth into fairly dependable income, and that the trade needs to be explained before the good year rather than during it.
Watch out
Common mistakes.
- Describing a buy-write as a low-risk strategy, when the shares still carry their full downside and only the premium softens it.
- Writing calls at a strike price the investor would not actually be happy to sell at, which turns a routine assignment into an unwanted loss of a favourite holding.
- Ignoring dividend dates, because an option can be exercised early to capture a dividend and remove the shares sooner than expected.
Questions
People also ask.
Is a buy-write the same thing as a covered call?
In substance yes, the difference is only that a buy-write refers to putting both legs on at once, while a covered call may be written against shares already held.
What happens if the share price collapses?
The investor keeps the premium and the shares, but suffers the fall almost in full, so the premium is a small cushion and not protection.
Does the strategy suit a volatile growth share?
Usually not, because the premiums look attractive precisely when the share is capable of the sharp rises the strategy gives away.
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