Covered-Call Funds Offer Big Payouts

By selling call options on the stocks in their portfolios, these funds earn extra income.

Businessman writing analyze graph for trade stock market on the screen.
(Image credit: Butsaya)

The market's manic moves might have you feeling like the main thing stocks are good for is raising your blood pressure, not raising your net worth. But there's one type of investment that may both calm your nerves and boost your income: covered-call funds.

These funds earn extra income by selling call options on the stocks in their portfolios. Call options give the buyer the right to purchase a stock at a set price within a certain time period. Here’s how it works: Imagine a fund owns shares of ABC, which currently trades for $50. The fund might sell a call option that gives the buyer the right to buy ABC shares for $60, within one month. And suppose the fund earns $2 per share in income for selling the option. If ABC shares rise to $65 during that month, the buyer will exercise his or her option and the fund will hand over its ABC shares, having earned $12 per share instead of $15. If the stock instead falls to $40, the option will expire unexercised and the fund will have lost just $8 per share, rather than $10. And if the stock price ho-hums along to $51, the fund nets $3 per share in profits.

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Elizabeth Leary
Contributing Editor, Kiplinger's Personal Finance
Elizabeth Leary (née Ody) first joined Kiplinger in 2006 as a reporter, and has held various positions on staff and as a contributor in the years since. Her writing has also appeared in Barron's, BloombergBusinessweek, The Washington Post and other outlets.