Buckle up! Stock markets have turned into a roller coaster again. Investors are finally acknowledging that COVID-19 will continue to wreak havoc on the economy into the foreseeable future. This unavoidable reality is causing nerve-wracking volatility.

Legendary investor Peter Lynch once said: “You get recessions, you have stock market declines. If you don’t understand that’s going to happen, then you’re not ready, you won’t do well in the markets.”

But you don’t have to sit on the sidelines. Below, I outline a time-proven way to make profits, regardless of coronavirus headlines that rattle investors.

We got a dose of dizzying volatility on Monday. After trading most of the day in the red, U.S. stocks posted a remarkable comeback late in the session, defying accelerating economic headwinds. Small-cap stocks led the way, with the Russell 2000 closing 2% higher. The recent surge in small caps is giving the market greater breadth and also demonstrates that many investors expect a robust recovery.

The Dow Jones Industrial Average yesterday gained 0.62%, the S&P 500 rose 0.83%, and the NASDAQ composite climbed 1.43%. Fueling the rally was the Federal Reserve’s announcement that it would start buying individual corporate bonds.

In pre-market futures trading Tuesday morning, the indices were on track to open higher, buoyed by the Fed’s action and also by reports that the White House is considering a $1 trillion infrastructure plan.

The evidence is clear: the federal government is determined to pull out the stops to keep the stock market afloat. Stimulus tends to be a popular tool during an election year. But will these efforts be enough?

The persistent pathogen…

Reports are surfacing that despite lockdowns that crushed the economy, the virus is spiking in hot spots around the country. Stocks have wobbled on the news.

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The virus can’t be ignored and it has ushered in a recession. On June 8, the National Bureau of Economic Research, the chronicler of economic cycles in the U.S., made it official: February 2020 marked a peak in economic activity, signaling the end of the longest expansion in U.S. history and the beginning of a recession (see chart).

Economic growth already was sputtering until the coronavirus finally killed it off. So what’s an investor to do?

A strategy to beat COVID-19…

Consider a covered call options strategy, which allows you to make extra money off a stock that you’re already holding. Covered calls can reap big returns whether the stock market is moving up, down or sideways.

A covered call consists of buying a stock and selling a call option against the stock. To execute this strategy, an investor holding a long position in an asset then writes (sells) call options on that same asset to generate an income stream.

The investor’s long position in the asset is the “cover” because it means the seller can deliver the shares if the buyer of the call option chooses to exercise.

For starters, you must buy or already own shares of stock that offer options contracts. Options are traded in blocks of 100 shares, so you’ll need to own at least 100 shares of the stock.

Next, you’ll sell a call option against the shares. You choose the strike price and expiration date. As long as there’s a party willing to buy the option, you’ll get a credit for the amount of the sale (minus commissions).

If the stock you own hits the strike price (or goes higher) at expiration, the person who bought the call option from you has the right to buy your shares of stock at the strike price. Accordingly, you could end up selling the shares at a below-market price. However, you earned a credit when you sold the call. In some cases, the credit will make up for the difference between the strike price and the market price.

But not always. When you write a covered call, you’re forgoing the ability to maximize your gain if the stock soars. If the stock stays below the strike price at expiration, you get to keep your shares, because the shares of stock are offered for a lower price than the strike price on the open market. It doesn’t make sense to pay more money for shares of stock than necessary, so the person who bought your call option will let it expire worthless.

When to use a covered call options strategy…

Some investors deploy a covered call options strategy when they think a stock is positioned to appreciate over the long run but not over the near term. In that case, they’ll sell the call with a strike price that’s outside of their price target for the next month or so. If the stock never hits that strike price, they’ll keep the money they earned from the sale and they’ll keep the shares of stock.

Also, some long-term investors write covered calls when they’re ready to sell. Once they’ve earned a healthy return on shares of stock they own, they’ll try to get a bit more of a return by selling the option.

The biggest risk here is if the stock unexpectedly tanks before contract expiration. In that case, they’ll get to keep the money earned from selling the call but they might be looking at a loss in the stock position.

How does a covered call options strategy work?

Pick a stock that you already own. Remember, you need to own at least 100 shares of the stock. After you’ve identified the stock, follow the instructions on your trading platform to sell one or more call options against that position. Many online brokerages allow you to set limit orders for options the same way that you do for stocks.

Then, it’s a matter of waiting until expiration. If the stock moves up to the strike price, you’ll sell 100 shares for every contract at that price. If not, you’ll keep the shares. In either case, you’ll keep the money you earned from selling the call option.

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A covered call options strategy has less risk involved than many other strategies. That’s because you’re really just sacrificing the opportunity to generate a higher return if the stock price increases significantly. You also get immediate income. When you write a covered call, you get cash deposited to your account right away.

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Questions or comments? Drop me a line: mailbag@investingdaily.com

John Persinos is the editorial director of Investing Daily.