A transaction in which a writer covers a position by purchasing an option is called?

A transaction in which a writer covers a position by purchasing an option is called a closing purchase. This occurs when an options seller (writer) buys back the option they initially sold to close their position. By doing this, they effectively eliminate their obligation under the original contract, settling the position and preventing further exposure to market movements. This action is essential for managing risk and can be executed at any point before the option's expiration.

The terminology around options is quite specific; a closing purchase specifically denotes the act of buying back an option, while other terms like closing sale and opening purchase have different meanings in the context of options trading. A closing sale, for instance, would refer to the act of selling an option to close an existing long position. Naked call refers to a strategy where an investor writes call options without owning the underlying stock, carrying a higher risk. Understanding these terms is crucial for effective options trading and risk management.