Optimization of covered call strategies

Abstract

We present a risk-return optimization framework to select strike prices and quantities of call options to sell in a covered call strategy. Covered calls of a general form are considered where call options with different strike prices can be sold simultaneously. Tractable formulations are developed using variance, semivariance, VaR, and CVaR as risk measures. Sample expected return and sample risk are formulated by simulating the price of the underlying asset. We use option market price data to perform the optimization and analyze the structure of optimal covered call portfolios using the S&P 500 as the underlying. The optimal solution is shown to be directly linked to the options’ call risk premiums. We find that from a risk-return perspective it is often optimal to simultaneously sell call options of different strike prices for all risk measures considered.