Strategic Covered Call Option Guide for Nvidia Investors

What is happening with Nvidia?

NVIDIA shares were trading at an all-time high and closed at $135.58 on Tuesday. The stock is up more than 170% since the start of the year. There seems to be nothing stopping Nvidia as the company surpassed Microsoft in less than two weeks after reaching a $3 trillion valuation. Nvidia has recently implemented a 10-for-1 stock split, a move aimed at lowering the price of each share, thereby making it more affordable and accessible to a broader range of investors. 

While Nvidia remains at the forefront of the AI race, other tech companies are also increasing their AI investments and expanding their operations in AI to gain a bigger slice of the market share.  Governments across various regions, including Asia, the Middle East, Europe, and the Americas are also stepping up their investments in AI. The fierce rivalry among major tech giants such as Microsoft, Apple and Meta have also led to a significant increase in demand for chips. Nvidia stands to benefit from this trend as it secures more deals for its chips, which are essential for powering AI technologies in data centres.

What can you do if you are long Nvidia?

Investors who have a long-term stake in Nvidia and wish to earn some income while waiting for Nvidia to reach their desired target price may consider selling call options on Nvidia. This strategy allows investors to earn additional income from being long Nvidia.

Illustration:

1. With Nvidia’ stock price at $135.58 on 18 June 2024, selling a call option with a $155 strike price (if you are comfortable selling your Nvidia shares at $155) for 1-month expiry (30 days) will yield a total premium of $190.00 ($1.90 x 100 shares).
2. This gives an annualized yield of 16.82% (1.90/135.58) x (360/30).
3. If Nvidia’s price stays below the strike price of $155 at expiry, the option will expire worthless, and the investor gets to keep the premium with no additional obligations.
4. If Nvidia’s price rises above the strike price of $155 at expiry, the investor is obligated to sell 100 shares at $155.The investor still gets to keep the option premium, thereby achieving the effective selling price of $155 + option premium.

Note:

1. Please note options trade in lot sizes of 100 shares. When an investor sells 1 lot of call option, they are selling a call option on 100 shares.
2. Prudent investors typically sell covered calls only on part of their holdings and keep the upside open on the rest.
3. If the investor wishes to receive a higher premium, the investor could choose an option with a similar strike price and a longer expiry.
4. If the investor is only willing to sell the stock at a higher price but still want to receive a relatively similar premium, the investor could choose an option with a higher strike price and a longer expiry.

Advantages of covered calls

1. Generates passive income. Selling a covered call generates an income via premiums that can supplement the overall return of a portfolio.
2. Relatively low risk. As the risk of being short a call is covered with your stock position, trading options this way carries a relatively low level of risk.
3. No extra margin required to sell covered calls. As you hold the underlying stock for delivery, there is no extra margin required to sell the same number of covered calls at Saxo.

Risks of trading covered calls

1. Capping your stock’s upside potential. One key risk is the loss of opportunity to profit from your stock’s potential upside above the call option’s strike price.
2. Risk of using covered calls as a proxy for take profit orders: In the example above, it is possible that the stock trades well above $155 through the course of the option but on expiry falls back below $155. Without the option, the investor might have booked the profits at $155 but because the stock was covered by call options, the investor might have waited out until expiry.

Options are complex, high-risk products and require knowledge, investment experience and, in many applications, high risk acceptance. We recommend that before you invest in options, you inform yourself well about the operation and risks. In Saxo Capital Markets Risk Warning, you will find more information on leveraged products and the associated risks. Trading in financial instruments carries risk and may not be suitable for you. Please refer to Saxo Capital Markets’ full Disclaimer here.