Short Call

I. Strategy overview

1）Strategy composition

Selling call options is one of the four basic option strategies, employed by some option traders where the underlying asset is not expected to rise in the near future, allowing potential profit from sideways or downward trends. When traders sell call options, they receive premiums and take on the obligation to deliver the underlying asset by the agreed time.

This strategy can result in unlimited losses and is not suitable for most investors. A more common strategy is the covered call, where an investor sells a corresponding call option while holding the underlying asset, which you can explore further if interested.This section will introduce selling call options without holding the underlying asset, also known as a "naked call" or "uncovered call."

2）Profit and loss analysis

3）Strategy characteristics

Limited profit: If the stock price does not reach the call option's strike price by expiration, the call option becomes worthless, and the seller keeps the entire premium. If the underlying asset fluctuates or falls before expiration, the call option price generally declines, allowing for potentially profitable buyback.

Unlimited loss: The seller is obligated to provide the underlying asset, with unlimited losses if the stock price rises infinitely.

Seller strategy: This is a seller's strategy, which is receiving the premium when opening a position.

II. Case study

Suppose TUTU is a listed company, with a current stock price of $50. Expecting no positive news in the near term, you believe the price won't rise. Thus, you sell a call option expiring in three months with a strike price of $65 and receive a $2 per share premium.

(Note: TUTU is not a real stock; it is used for illustrative purposes only.)

Since the option premium per share is $2, the total premium received is $200.

Scenario 1: Stock price ≤ strike price

Suppose at expiration, TUTU's stock price is $60:

The option cannot be exercised, and you earn the full premium of $200.

Scenario 2:  Strike price> strike priceSuppose on the expiration day, TUTU's stock price is $75:

If you sell a call, you have the obligation to deliver the underlying stock. The buyer of the call has the right to exercise the contract with the seller. This occurs when the buyer exercises an options contract on or before expiration, and the seller must fulfill the obligation by selling the underlying security at the exercise price.

You will get a short position in the stock if you don't hold equivalent shares of the underlying stock. To avoid "naked selling," you could buy the corresponding number of shares at market price to close the position.

Your per-share loss: $75 (stock price) -$65 (strike price) - $2 (premium per share)= $8.

Your total loss would be $8 * 100 = $800.

Note: These figures are just paper gain or loss if exercised. To calculate realized profit or loss, you would have to buy to close your short position due to the assignment.

III. How to set up a short call on moomoo

Step 1: Access the stock quotes page > Option chain > Single-leg options > Select specific expiration date and strike price > Click Trade

By default, options for the nearest expiration date are displayed. Click Call to view all call options.

In the option chain, click the corresponding option and select the direction as sell. A quick trade bar will appear at the bottom of the page; clicking the upward arrow shows a profit/loss analysis chart. This tool automatically calculates the theoretical potential profits based on the stock price, and you can slide the chart to see how different price points affect projected returns. It also displays estimates of profit probability and break-even points.

If you want more details, double-click to enter the specific quote page. If you decide to sell the call, click Trade in the lower left to proceed to the next step.

Step 2: Enter the Trade page > Set type of option (call or put), price, number of contracts, and order type > Click Sell

The options trading interface is similar to that of the underlying stock, with the direction confirmed as a sell. Note that the bid-ask spread in options can be significant, so consider choosing an appropriate middle price based on market conditions.

To help manage risks from a significant stock price increase, you can set a conditional order to stop loss. After selling the call option, you can set a stop limit or stop market order. If the call option reaches the trigger price, the system places a buy-to-close based on preset conditions. However, rapid price changes may prevent execution, requiring close monitoring and manual intervention if necessary.

Step 3: The sold option contract can be found in Holdings. You can trade or roll forward the option here.

Step 4: After the sale, the option premium will be credited to the account immediately. You can go to Accounts> More> Funds Details to check the cash flow into the account.

Images provided are not current and any securities are shown for illustrative purposes only and are not a recommendation.

IV. Applying the short call strategy

1) Earning option premium upfront

Investors earn premiums by selling call options, they could gain potential income upfront with margin/maintenance requirements.

However, the call seller must meet obligations if the stock price exceeds the strike price before or on expiration. Without sufficient underlying stocks, you must buy at market price to deliver, posing unlimited risks. Note that improper handling can cause forced liquidation and substantial losses.

2) Utilizing volatility premium

Implied volatility measures market expectations of future volatility. Generally, higher implied volatility results in higher option costs, as increased volatility raises the likelihood of the stock reaching the strike price, boosting option prices.

Before major events like earnings announcements or Federal Reserve meetings, volatility often rises. And it usually falls afterward, lowering option prices. Some option sellers try to take advantage by selling during high volatility for higher premiums.

If you hold the underlying asset while selling a corresponding call (covered call), you could refer to related sections for detailed strategy applications.

V. FAQs

A. How can I manage risk if I decide to choose a naked call strategy?

Choosing higher strike prices and shorter expiration periods generally decreases the likelihood of exercise. This reduces risk but does not eliminate the potential for theoretically unlimited losses.

Options have time decay, which is beneficial to sellers as time value decreases leading up to expiration, usually more rapidly the closer to expiration. You can also use technical analysis to choose an indicated strong resistance level (or higher) as the strike price.

High-volume assets have more liquidity and usually allow for easier entry and exit.

B. Does a high IV rank and IV percentile ensure profit from selling calls?

No. Volatility analysis tools compare current volatility to the past year: IV rank shows the current volatility's position and the IV percentile shows what percentage of days had lower volatility.

High volatility may rise even further, as seen in historical squeezes like GameStop (GME). Historical volatility level could serve as a reference. Investors should exercise caution and use multiple sources of information when making investment decisions.

C. Why is there a limit on the number of calls one can sell, despite no capital requirement upfront?

When selling call options, although you don't need to pay cash upfront, the seller takes on the obligation to deliver the underlying stock if exercised. The system calculates the maximum number of call options you can sell based on your current account's buying power.

If the underlying asset's price rises, the call option's price increases and could exceed the account's capacity, triggering a margin call. If the margin is not replenished in time, the system will force a buy to close the position. In extreme cases, if the asset price rises sharply, the call option price may skyrocket even faster. This potentially leads to forced liquidation that doesn't cover your losses.

D. What can I do after selling a call option?

Closing the position early: After selling a call option, if the option's price drops as expected, you might consider buy-to-close to lock in profits.

Conversely, if the market moves contrary to your expectations, consider selling to stop losses at an appropriate time.

Your profit/loss = (Option Sell Price − Option Buy Price) * Contract Multiplier * Number of Contracts.

Rolling the position: For the same underlying stock, you can buy to close the current call option, realize the loss or gain, and sell a new one. This method is useful if initial selling prices or timing needs adjustment, though it increases transaction costs.

Assigned for early exercise: If an option buyer chooses early exercise, the system matches buyers and sellers randomly, so you might be assigned to deliver stock early. Sellers can't control the timing of exercise.

Since the buyer exercising the option early effectively means giving up the time value, the scenario is relatively rare.

Holding until expiration: If an option is out of the money at expiration, it expires worthless, and you keep the entire premium. If it's in the money, it will be automatically exercised under certain conditions.

1. Automatic exercise conditions:

U.S. market: Exercised if the stock price exceeds the strike price by $0.01 or more at expiration.

1. Hong Kong market: Exercised if the stock price exceeds the strike price by 1.5% or more at expiration.If you don't own the corresponding stock at expiration, the system will usually assign a short position. For example, if you sold a TUTU call option without holding the stock, your account would reflect a short position of -100 shares of TUTU.  And if you didn't hold equivalent shares of the underlying stock (e.g. 50 shares), your 50 shares would be sold and you would be assigned a short position of -50 shares of TUTU.

To avoid "naked selling," you could buy the corresponding number of shares at market price to close the position.

E. What are the differences between selling call options and shorting stocks? Which carries more risk?

Both strategies are high-risk, with theoretically unlimited losses. However, given options' greater volatility, selling call options without holding the underlying asset is generally considered riskier.