Step 3: Covered Calls

With 100 shares in your account, you can now sell covered calls—this is the covered call wheel strategycomponent. This generates additional passive income options wheel income while you hold the stock. In the Traditional Wheel, if your shares are called away, you go back to Step 1 and sell another cash-secured put, continuing the wheel cycle.

What Is a Covered Call?

A covered call means you own 100 shares of stock and sell a call option against those shares. The shares "cover" the call, meaning if the call is exercised, you have the shares to deliver.

Example

You own 100 shares of XYZ at $43.50 cost basis (from Step 2). Stock is now at $45. You sell 1 covered call with a $50 strike for $1.00 premium ($100 total). You collect $100 immediately. If stock stays below $50, you keep the $100 and still own shares. If stock rises above $50, your shares are called away at $50.

Strike Selection for Covered Calls

Choosing the right strike balances premium income with the probability of your shares being called away.

General Guidelines

  • 5-15% Above Current Price: Provides upside while collecting decent premium
  • Above Your Cost Basis: Ensures profit if called away (strike - cost basis + premium)
  • Out-of-the-Money (OTM): Strike above current price reduces assignment probability
  • Delta 0.20-0.30: Similar to CSPs, this gives good premium-to-risk ratio

Strike Selection Example

Stock at $45, your cost basis is $43.50. Options: $50 strike (11% OTM) pays $1.00, $55 strike (22% OTM) pays $0.40. The $50 strike offers better premium while still providing 15% upside from your cost basis. This is typically the sweet spot.

Premium Collection

Just like with CSPs, you collect premium immediately when you sell a covered call. This is your income, regardless of what happens to the stock price.

Total Income from Wheel Cycle

In a complete Wheel cycle, you collect premium twice: once from the CSP (Step 1) and once from the covered call (Step 3). Example: $1.50 from CSP + $1.00 from CC = $2.50 total premium per 100 shares. This is why the Wheel is so effective for income generation.

When Your Shares Are Called Away

If the stock price rises above your call strike at expiration, your shares are "called away" (sold) at the strike price. In the Traditional Wheel, this is a good outcome—you've completed the cycle and can start over.

Called Away Example

You own 100 shares at $43.50 cost basis. Sold $50 covered call for $1.00. Stock closes at $52 on expiration. Your shares are called away at $50. Total profit: ($50 - $43.50) + $1.00 = $7.50 per share = $750 total. You've completed the Wheel cycle and can now sell another CSP (back to Step 1).

What If Your Shares Are NOT Called Away?

If the stock stays below your strike price, the call expires worthless. You keep the premium and still own your shares.

If Not Called Away

Simply sell another covered call (repeat Step 3). You continue collecting premium while holding the stock. This is part of the Wheel cycle—you keep selling calls until your shares are eventually called away, then you start over with a new CSP.

Next Step

Understand how the cycle continues and completes the Wheel Strategy.

Step 4: The Cycle →