There are many advantages to trading options. Options are available on a wide variety of single stocks and indices. Traders are free to construct option trading strategies from simple one that have a single option to complex ones that involve multiple, simultaneous option positions. Given below are the basic strategies that every beginner must know to trade options successfully.
Buying calls-this is the perfect position for traders who are bullish on a particular stock or those who do not want to risk their capital in case of downside movement. The potential loss from buying calls is limited to the premium paid. Potential profit is however unlimited. The payoff increases as much as the underlying asset price increases.
Buying puts-traders who are bearish on an underlying return but do not want to take the risk of adverse movement must use this trading strategy. Buying puts allows traders to take advantage of leveraged position. Potential loss is equal to the premium paid for the option. The maximum profit is limited since the stock price can’t go below zero.
Covered call-traders who expect no change or slight change in the underlying price should use this trading strategy. Those who wish to limit upside potential in exchange of limited downside protection can also use this strategy. This strategy involves a short position in a call option and a long position in the underlying asset. The long position guarantees that the short call writer would deliver the underlying price in case the long trader will exercise the option.
Protective put-this trading strategy is preferred by traders who own the underlying asset and want downside protection. The strategy involves long position in the underlying asset and a long put option position. If the price of the underlying asset drops, the potential loss of the strategy is limited by the difference between the initial stock price and the strike price plus the premium paid for the option.
There are several trading strategies in options that traders can choose from for enjoying profits from trading underlying securities. While the ones shared above are the basic strategies that beginners must know, they can use other strategies once they acquire knowledge and skill in trading options. It is advisable to look for options trading strategies, tips, and guidance online before entering the challenging world of options.