Option contracts are an effective tool investors use to hedge risk, generate income or lower investing costs, but achieving any of these goals requires thorough understanding of the mechanics of options. The investor's position as buyer or seller determines the right or obligation, or control, on a given contract. For a call option, the buyer has control, as he can exercise at any point before expiration. Control, however, should not be construed to mean a lack of risk.
Assume Investor A buys 10 January 2016 calls at $20 on Ford Motor Company (F) from Investor B. At any time between purchase and the expiration date, Investor A can exercise the option, giving him the right to buy 1,000 shares of Ford Motor Company at $20 per share, regardless of the current market price. Investor B is obligated to sell the shares to Investor A at the strike price.
Looking at the same scenario from Investor B's perspective, if he sells the calls on Ford, he needs to own the shares to constitute a covered call or have cash accessible to purchase the shares at any time for delivery. If writing a covered call, Investor B gives Investor A control over purchasing his shares of the stock at $20.
Even though the buyer maintains control over the call option, he still encounters risk. First, the buyer must pay a premium to purchase the call option. Additionally, if the market price does not bring the contract in the money and the option expires, the buyer loses control along with the premium paid.
