The Truth About Premium Decay: How Theta Works in Covered Calls
The Truth About Premium Decay: How Theta Works in Covered Calls
If you’ve ever noticed your covered call premium fading over time, that’s the invisible hand of Theta — the rate of time decay in options. Theta eats away at the value of an option as it gets closer to expiration. For Canadian investors selling covered calls, this decay can either work for you or against you.
What Is Theta?
Theta measures how much an option's price decreases with each passing day, all else being equal. A Theta of -0.03 means the option loses 3 cents of value per day. This loss accelerates the closer you get to expiry — particularly in the last 30 days.
Why Theta Matters for Covered Call Writers
- Time is on your side: As a seller, time decay benefits you — the option you're selling becomes less valuable over time.
- Faster decay = faster profits: If the stock stays flat, the call premium erodes daily — letting you potentially buy it back cheaper or let it expire worthless.
- Shorter expiries = higher Theta: Weekly or 2-week options have higher Theta than 45+ day options, meaning faster decay.
How to Use Theta in Your Strategy
When building a covered call in Canada, consider:
- Using 20–30 day expiries to capture optimal Theta decay
- Looking at Theta values on your trading platform before selling
- Monitoring the stock’s price action — Theta works best when price stays below the strike
A Quick Example
You sell a covered call on ENB.TO with 30 days to expiry for $0.85 premium. After 10 days of flat price action, Theta has eaten $0.45 from the premium — meaning you’ve earned over 50% of the option’s value just by waiting.
Bottom Line
Theta is the silent engine that powers your premium income. Covered call traders who understand time decay have an edge — especially in flat or mildly bullish markets. Use it to time your entries and manage expectations as expiry approaches.
