CFA Level I · CFA Level I Exam · Derivative Benefits, Risks, and Issuer and Investor Uses
An investor owns shares of a company and writes call options on the same shares with a strike price above the current market price. This strategy is best described as being used to:
The covered call is used to generate income while accepting capped upside. The investor collects the premium, but if the share price rises above the strike the shares are called away, limiting gains. Downside risk remains, only partly cushioned by the premium received.
- Agenerate income while accepting capped upsideCorrect
- Beliminate all downside risk in the shares
- Cgain unlimited profit if the share price rises sharply
Explanation
A covered call earns the option premium, which adds income and slightly cushions losses. If the price rises above the strike, the shares are called away, so the upside is capped. The premium does not eliminate downside risk, and gains are not unlimited.
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