Buy-Write Option Strategy

A buy-write option strategy is when an investor sells a call option while simultaneously buying the underlying stock. This strategy is similar to a covered call except that both the stock position and call option are entered into at the same time. Investors with an investment objective of income utilize a buy-write option strategy to collect premiums from the sale of call options. A buy-write option strategy requires a moderate level of risk tolerance.

The maximum potential loss is the entire value of the stock less the premium received from the option sale. Buy-writes limit the upside profit potential of the stock during the duration of the option. This is because the option seller has the obligation to sell shares of stock if the buyer of the option exercises the option.

Therefore, an investor who seeks a buy-write strategy may have their shares sold at the strike price and may no longer participate in any future stock price increases. An investor who has a neutral to slightly bullish outlook that does not anticipate the stock price to exceed beyond a certain point utilizes a buy-write option strategy.

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Let’s See an Example

An investor anticipates that stock price of ZAH will go up in the short term but not beyond a certain price. He simultaneously purchases 100 shares of ZAH at $9 in addition to selling a call option of ZAH at the $13 strike price with 2 months until the expiration for a premium of $1.

• Long 100 shares of ZAH stock bought at $9

• Sell 1 ZAH call option at the $13 strike price with 2 month until expiration date for a premium of $1

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The maximum profit per option is the difference between the strike price of the option and the purchase price of the stock plus the premium collected from the option sale multiplied by 100 shares.

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Maximum Profit per Option = (Strike Price of Option - Stock Purchase Price + Premium) x 100 shares

$500 = ($13- $9 + $1) x 100 shares

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The maximum loss is the stock purchase value less the premium received multiplied by 100 shares. The breakeven point is the stock price less the premium received multiplied by 100 shares.

Maximum Loss per Option = (Stock Purchase Price- Premium) x 100 shares

$800 = ($9 - $1) x 100 shares

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The breakeven point is the stock price less the premium received multiplied by 100 shares.

Breakeven Price = (Stock Purchase Price-Premium)

$8= $9-$1

The profit and loss of the buy-write option strategy until expiration date is depicted in the chart below.

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The chart shows the potential profit and loss on the y-axis versus the corresponding stock price in the x-axis until expiration date.

If ZAH trades up to $13 and beyond, the investor will make $500, which is made up of $400 from the stock price appreciation plus the $100 from the sale of the call option. Conversely, the maximum potential downside risk is $800. This is comprised of the $900 loss if the stock price goes to $0 less the $100 premium made from selling the call.

At any point if the stock trades above $13 though, the investor may possibly be assigned, and obligated to sell the 100 shares of ZAH. If however, the stock stays between $8 and $13 the investor will makes a greater profit than had he not sold the call option while still being able to retain the shares of ZAH for future gains.

The same holds true if the stock falls between $8 and $0, the premium received from the sale of the call option helps offset the losses of the stock investment in ZAH by $100 had he not sold the call option.‌

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