5 Tips for Covered Call Traders - Tip #4

Watch Those Commissions!

One thing you should know about covered call trading is that commissions can quickly eat into your profits if you're not careful in your broker selection. This is especially true if you're a regular investor like me and only do with small lots.

If you are interested in covered calls, you should call your broker and find out what commissions you will have to pay. My broker, thinkorswim (SWIM) charges $5 for a 100 share/1 call trade, which is a pretty good deal. Some other brokers charge outrageous fees on options trades. It may cost you $15 to $20 just to buy the option, and on top of that, you're responsible for a stock commission as well. And if you close the trade out, you can double that.

Now let's take a look at how commissions can affect the profitability of a covered call trade on Research In Motion (RIMM). The trade consists of:

Long 100 shares of RIMM @$39.26
Short 1 April $45 call @$1.76

Let's assume all goes as planned, and the stock closes above $45 at expiration. So, the profit on the trade before commissions is $45 - $39.26 + $1.76 a share = $7.50 a share, or $75. Now if you paid $25 in commissions to make the initial trade, that profit is cut down to $50. And then may have to pay ANOTHER commission when the stock is called away.

Get it? Commissions matter big time with covered calls.

Tip #1 - Pick a Stock You Believe Will Go Up!
Tip #2 - Shoot for the Clouds, Not the Stars
Tip #3 - Stick With Short Durations
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