Covered Call strategy works great in downtrending or rangebound markets: short call legs have positive expected profit and decrease the overall portfolio volatility.
However, in the Bull Markets, it does not so look attractive, at the first glance: with uptrending price, the short call leg often expires in-the-money forcing the underlying security to be called out and not to participate in the market rise above the call strike. Overall, in bull markets, calls are underpriced on average and the short call strategies have negative expected profit.
This research is devoted to finding the answer to the question: can a Covered Call strategy be efficient in the Bull Market environment despite the fact that it has an expected profit less than a simple Buy&Hold of the underlying security.
The conclusion is yes, the Covered Call strategy, especially with calls in the ITM area, can be quite efficient due to the substantially lower volatility of returns and higher risk-adjusted performance. By means of leveraging, it is possible to achieve higher absolute return than with an outright Buy&Hold strategy while having the same risk level measured by standard deviation and maximum drawdowns.
Covered Call is a popular strategy that is often considered as a source of additional income for a long-term equity investor. Writing OTM calls is supposed to be a conservative strategy an average investor can pursue to earn a supplementary gain in excess of the underlying assets return.
However, it turns out that the call overwriting against the major equity indices does not add any meaningful profit to the portfolio because almost all the premium collected from the short calls will eventually be lost in the form of not participating in the growth of the underlying security called-out in the cases of ITM expiration.
This research demonstrates that call options on equity indices are priced quite fairly on average (in the contrast to puts) and usually have expected profit/loss close to zero. Moreover, in the secular bull markets, they are mostly underpriced, and Covered Call imposes a drag on the portfolio performance.
Nevertheless, on a risk-adjusted basis, this strategy can be quite attractive, especially for the ITM calls selling.