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- What Are Covered Options
Crypto options trading offers various strategies to manage risk and optimize returns, and covered options are among the most popular for traders looking to generate income while holding an underlying asset.
A covered option is an options position backed by an equivalent holding of the underlying asset. This makes it a lower-risk alternative to selling naked options, which carry unlimited risk.
How exactly do covered options work?
Note: This article is for educational purposes only and should not be considered financial advice.
Types of Covered Options
The two primary types of covered options are covered calls and covered puts.
Coreved Call
A covered call involves holding an asset (e.g., BTC) and selling a call option against it. This allows the trader to collect a premium while still maintaining ownership of the asset. However, if the price rises above the strike price, the trader must sell the asset at that price, capping potential upside gains.
Example
A trader owns 1 BTC, currently trading at $80,000. They sell a call option with a $85,000 strike price for a premium of $1,500.
If BTC stays below $85,000 at expiration, the call option expires worthless, and the trader keeps their BTC plus the $1,500 premium.
If BTC rises above $85,000, the trader must sell their BTC at $85,000, missing out on additional gains beyond that level but still keeping the $1,500 premium.
Best for: Traders who expect the asset price to stay flat or rise slightly but not surge significantly.
Covered Put
A covered put involves holding a short position in the asset and selling a put option against it. This strategy collects premium income but obligates the trader to buy back the asset at the strike price if it moves higher than expected.
Example
A trader is short 1 BTC at $80,000 and sells a put option with a $75,000 strike price for a premium of $1,200.
If BTC stays above $75,000 at expiration, the put option expires worthless, and the trader keeps the $1,200 premium.
If BTC drops below $75,000, the trader must buy it back at $75,000, which could result in losses if the market continues dropping. However, the $1,200 premium reduces the effective buyback cost to $73,800 ($75,000 - $1,200).
Best for: Traders with a bearish outlook who expect the price to decline or stay relatively stable.
Pros and Cons of Covered Options
As any trading strategy, covered options have their own advantages and disadvantages.
Benefits of covered options:
Income Generation: Earning premiums for selling options while holding a position.
Risk Management: Covered options limit the unlimited downside risk of naked options.
Flexibility in Market Conditions: Covered options are useful in neutral to moderately bullish/bearish markets.
However, covered options cap potential profits:
In a covered call, if the asset price surges past the strike price, the trader must sell at the agreed strike price, missing out on additional gains.
In a covered put, if BTC price drops sharply, the trader must buy it back at the strike price, potentially taking a loss.
Final Thoughts
Covered options are a powerful strategy for generating passive income while managing risk, especially when paired with a clear market outlook and disciplined risk management.
Kyan takes options trading to the next level with portfolio margin, optimizing capital efficiency and improving liquidity for more seamless execution. By integrating covered options with perpetual contracts, traders can fine-tune their exposure, hedge directional risk more effectively, and maximize trading flexibility in dynamic market conditions.
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