A Primer on Covered Calls

Editor's note: Kevin Simpson is the President of Capital Wealth Planning, LLC - An Investment Advisory Firm based in Naples, Florida. Capital Wealth Planning specializes in managing portfolios of ETFs with a monthly covered call overlay. He can be reached at [e-mail] or by visiting www.rentyourstocks.org.

By Kevin Simpson

NEW YORK (TheStreet) -- During this period of market volatility, many investors are looking to maximize their investment performance and reduce losses.

Writing "covered calls" is the easiest and most cautious way to utilize stock options. There are lots of myths surrounding stock options: they are too complex, too risky, and only for industry professionals. The truth is, options can play a strategic role in every portfolio, especially for a conservative investor.

"Covered" means you own the stocks or exchange traded funds or ETFs that back the options, like collateral. This conservative option strategy is suitable for income-oriented, protection-minded investors.

A "call" is one of the two basic option contracts, the other being a "put" option. A call gives the holder the right, but not the obligation, to buy the underlying stock or ETF at a preset price (the strike price) by a specific date in the future (the expiration). The seller (or writer) of a call has to sell the stock or ETF to the holder of the option if the holder exercises the option on or before that date.

Call writers make money by collecting a premium for selling the option. Call buyers can make money if the stock covered by the option trades at a higher price than when the option was purchased. Usually, but not always, a rise in the stock price raises the call price as well.

A covered call is an option sold on stocks or ETFs that an individual already owns. It gives the buyer the right to purchase shares at a fixed (strike) price for a limited amount of time, usually for several weeks.