Options strategies – short call 
Benefits, risks and examples of a short call option.

A short call option is a bearish strategy used by investors to profit from neutral to declining prices in an underlying asset. This article looks at the short call option strategy, including its mechanics, benefits, risks, and practical implementation.

What is a call option?

A call option is a contract that gives the buyer the right, but not the obligation, to purchase a specified quantity of an underlying asset at a predetermined price (the strike price) before or at the expiry date. The buyer pays a premium to the seller (writer) of the call option for this right. Buying call options is known as a long call.

In return the seller has the obligation to deliver, upon the request of the buyer, a specified quantity of an underlying asset at a predetermined price (the strike price) before or at the expiry date. This position is known as a short call and is further explained in this article.

Both buyers and sellers of call options can terminate either their right or obligation by a reverse (closing) transaction.

Understanding the short call option strategy

A short call option strategy involves selling (writing) a call option with the expectation that the underlying asset's price will either remain steady or decline. The strategy profits from the premium received from selling the call option, which can be kept if the option expires worthless. This strategy is considered bearish to neutral.

Key components of a short call option

1. Premium
   The price received by the seller for writing the option.
2. Strike price
   The predetermined price at which the buyer can purchase the underlying asset.
3. Expiry date
   The date by which the option must be exercised or will expire worthless.

Advantages of the short call option strategy

1. Immediate income
   The primary benefit is the immediate income received from the premium. This can provide a steady stream of income if executed regularly and successfully.
2. High probability of success
   If executed correctly, many short call options expire worthless, allowing the seller to keep the premium. This can result in a high probability of success in sideways or declining markets.
3. Flexibility
   The strategy can be tailored by choosing different strike prices and expiry dates, allowing the seller to adjust their risk and reward profile.

Risks of the short call option strategy

1. Unlimited risk
   The most significant risk is the potential for unlimited losses if the underlying asset's price rises substantially. This makes risk management crucial.
2. Margin requirements
   Selling call options typically requires a margin account, and the margin requirements can be substantial, especially if the stock price moves against the position. This margin is used as a buffer and provides a level of security to the clearing organisation that you are able to cover potential losses.
3. Opportunity cost
   If the underlying asset appreciates significantly, the seller misses out on potential gains and faces losses.

Example of a short call option

Suppose you believe Company XYZ's stock, currently trading at €50, will not rise above €55 over the next three months. You decide to sell a call option with a strike price of €55 expiring in three months. You receive a premium of €2 per share (options typically represent 100 shares, so the total premium received would be €200).

Profit and loss potential of a short call

• Maximum profit
  The maximum profit is limited to the premium received. In this example, the most you can make is €200 if the stock remains below €55 until expiry.
• Breakeven point
  The breakeven point occurs when the stock price equals the strike price plus the premium received. In this case, the breakeven price would be €57 (€55 strike price + €2 premium).
• Unlimited loss potential
  If the stock price rises significantly above the strike price, the potential loss is theoretically unlimited. For example, if XYZ's stock rises to €70, the loss would be (€70 – €55 – €2) x 100 = €1,300.

Implementing the short call option strategy

1. Market analysis
   Conduct thorough market analysis to identify stocks or assets expected to remain stable or decline. This can involve technical analysis, fundamental analysis, or both.
2. Select the strike price and expiry date
   Choose a strike price that reflects your market outlook and an expiry date that aligns with your expectations for the stock's movement.
3. Monitor the position
   Regularly review the position and market conditions. Be prepared to take action if the underlying asset's price moves significantly.
4. Exiting the position 
   Have a clear plan for exiting the position. This can involve buying back the call option to close the position if the stock price rises or letting the option expire if the price remains below the strike price.

Short call vs. other strategies

The short call option strategy is often compared to other strategies like short selling, long call options, and covered calls.

Versus short selling
Both strategies benefit from price declines, but short selling involves borrowing and selling the stock, which can be more complex and carry its own risks, such as the potential for unlimited losses and margin calls.

Versus long call options
A long call benefits from price increases and has limited risk (the premium paid), while a short call benefits from price decreases or stability but carries unlimited risk.

Versus covered calls
A covered call involves owning the underlying stock and selling a call option against it. This limits the risk compared to a naked short call, as the stock ownership can offset potential losses.

Practical tips to increase the possibility for success

• Risk management
  Given the unlimited risk, it's crucial to have robust risk management strategies in place. This can include setting stop-loss orders, using options spreads, or limiting the size of positions.
• Use technical indicators
  Indicators such as moving averages, resistance levels, and volatility indices [CA3] can help identify potential entry points and manage positions.
• Stay informed
  Keep abreast of market news, earnings reports, and other factors that can influence the underlying asset's price.
• Diversify
  Spread your positions across different assets to mitigate the impact of adverse price movements in any single asset.
• Regular review
  Continuously monitor and adjust your positions based on market conditions and new information.

The short call option strategy can be a powerful tool for generating income in neutral to declining markets. However, it carries significant risks, especially if the price of the underlying asset rises substantially. By understanding the mechanics, benefits, and risks, and by implementing the strategy with careful market analysis and robust risk management, investors can potentially achieve consistent returns. As with any investment strategy, thorough research and prudent decision-making are essential for success in options trading.

Investing in the financial markets requires a deep understanding of various strategies to maximise returns while managing risk. Please consult your bank or broker for advice or read the Key Information Document to get a better understanding of all risks and costs involved.

See also:

• What is a long call option?
• What is a long put option?
• What is a short put option?
• Options investing e-learning - positions

Euronext Amsterdam welcomed the Dutch district water board De Stichtse Rijnlanden on Thursday 19 September 2024 for a special Gong ceremony to celebrate the interest payment on two perpetual bonds, dating back to 1638 and 1765.

The century-old bonds were issued at the time by the Utrecht Water Board Lekdijk Bovendams, legal predecessor of De Stichtse Rijnlanden, and the documents are still yielding interest. Specifically, they are a 2.5% bond (dated 1638) worth 3,200 guilders, now 386 years old, and a 2.5% bond (dated 1765) worth 1,000 guilders, now 259 years old. 

These bonds are not only part of the historical archives of the Amsterdam Stock Exchange but also hold a place in the Guinness Book of Records as some of the oldest bonds in the world that still pay interest. The last payment occurred in March 2016.

The bonds were issued following a series of breaches of the Lekdijk, the dyke that has protected large parts of Utrecht and Holland from the water since the early 12^th century. After the dyke was breached a number of times between the 15^th and 17^th centuries, resulting in flooding even in Amsterdam, the water control board decided to issue the perpetual bonds to finance the repair and reinforcement of this dyke that is still crucial to the Randstad area of the Netherlands today. Interest is still being paid on seven of these centuries-old bonds. Two of these have long been part of the historical archive of the Amsterdam Stock Exchange, managed by the Amsterdam Capital Foundation (Stichting Capital Amsterdam).

Since 1638, the total interest payments have now reached nearly 1,500%. 

Despite being centuries old, these bonds are more relevant than ever. The Lekdijk is one of the most important dykes in the Netherlands due to the economic value and population it protects. It is a key component of the Dutch Flood Protection Programme. Additionally, these bonds, which have been generating interest for nearly 400 years, symbolise the financial reliability of the Netherlands.

When it comes to addressing climate change, the Euronext Group has established a clear set of strategic priorities. These priorities reflect its commitment to driving positive change and promoting sustainability within the financial sector.

We invite you to read the Euronext Transition Plan for 2024, approved by Euronext's Managing Board on 26 August 2024. 

In 2021, Euronext set out its new strategy “Growth for Impact 2024”, and expressed its ambition to build the leading market infrastructure in Europe. The Group’s goal was to make an impact on its industry and its ecosystem, fulfilling its purpose to shape capital markets for future generations.

Under this plan, Euronext N.V. has continued to pursue its mission to connect European economies to global capital markets, to accelerate innovation and sustainable growth.

Empowering sustainable finance has been a key priority since 2021. Euronext has set out to achieve this through an ambitious climate commitment that aimed to make a tangible impact on its partners and clients, with the launch of the ‘Fit for 1.5°’ climate commitment, as well as an enhanced inclusive people strategy.

‘Fit for 1.5°’ has been Euronext’s commitment since 2021, driving the company to develop services and products that help its business, partners, clients and the European economy, to curb the increase in global temperatures from pre-industrial times. The company’s goal is to help ensure this increase remains below the 1.5°C target, as set out in the Paris Agreement. An integral part of the ‘Fit For 1.5°’ climate commitment involved Euronext setting science-based quantitative climate targets that inform in-house climate action efforts. As part of its next strategic plan, covering the Group’s ambitions until 2027, Euronext will continue to pursue the Fit for 1.5° climate commitment, first undertaken in 2021.

Euronext set its science-based quantitative climate targets by signing the Business Ambition for 1.5°C campaign, led by the Science Based Targets initiative (SBTi) in partnership with the United Nations Race to Zero campaign.

Applying the SBTi methodology to Euronext emissions led to the formulation of the following targets, which were reviewed and validated by the SBTi in February 2023:

• By 2030, Euronext will reduce its Scope 1 and Scope 2 market-based greenhouse gas emissions by 73.5% compared to 2020;
• By 2030, Euronext will reduce its Scope 3 business travel emissions by at least 46.2% compared to 2019;
• By 2027, Euronext suppliers, representing 72% of Euronext’s greenhouse gas emissions derived from purchased goods and services, must set targets on their Scope 1 and Scope 2 emissions.

To achieve its decarbonisation targets, Euronext has developed a comprehensive action plan and a dedicated governance has been put in place to internally mobilise all the actors and to facilitate the implementation of an integrated approach to ensure the targets are being reached.

Discover how Euronext is shaping a sustainable future with our Euronext Transition Plan 2024.