Options Trading (Call & Put)

Should you want to start trading options, the first thing you should know is what the two types of contracts mentioned above are: call and put. It is important to remember that, as with other derivative products, there are always two parties in every option transaction: the buyer and the seller of the contract, called the writer. Although it is possible to trade options in most financial markets, let's focus on stock option trading.

Options Trading - What is a call option?

Suppose a trader buys a call option on Apple with a strike price of $180 that expires in six weeks. This means that the trader who buys the call has the right to exercise that option (i.e., the right to buy the stock) by paying $180 per share. If Apple's stock price rises to $200, then exercising the option is a good deal for the buyer: he can keep the shares at a lower price than he would pay on the open market.

The issuer of the call option would then be obligated to sell those shares at $180 each, regardless of the actual price of the underlying asset, in this case Apple. However, if Apple's share price fell to $150, the buyer would have no obligation to exercise the call option. In this case, the sensible thing to do is to let the contract expire and let the writer keep his shares.

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Options Trading - What is a "Put"?

Buying a put option gives the buyer the right, but not the obligation, to sell the underlying shares at a predetermined strike price on a predetermined expiration date. In this case, the trader is speculating on a possible drop in the price of the stock, that is, he or she is trading short in the market. Let's look at an example of a put option on the stock:

Let's say Tesla is trading at $360 per share (which is the same as the strike price) and the value of the put is $6 per share (which is called a premium) with an expiration of three months. Since one option contract is equivalent to 100 shares, the cost of 1 option is $600 (100 shares x $6 per share). The trader's break-even price is the strike price minus the sale price, in this case 360 - 6 = $354.

If on the expiration date of the contract the price of the underlying Tesla stock is between 354 and 360, the option will be revalued, but will not result in a gain or loss. If the share price remains above the strike price (360) the option would have no value and the trader would lose the price paid for the sale (600). But if the price is below $354, the trader will begin to make a profit.

Options Trading - Options Strategies.

Options are tradable securities, which means that in very few situations they expire or the shares are transferred. This is because most traders simply use options as a vehicle to speculate on the price movement of the underlying asset. However, not all options follow the price movement of their underlying asset, so the value of an option decreases over time, which differentiates them from simply buying shares.

This may seem strange, but it is just one reason, among many, why beginning traders lose money in options trading. When using options trading strategies, it is important that they understand the Greek terms "Delta, Vega, Gamma, and Theta." These are statistical values that measure the risks involved in options trading:

Delta - This value measures the sensitivity of the option price to changes in the price of the underlying asset. Essentially, it is the number of points the option is expected to move for each point change in the underlying asset. A one-point movement in the underlying asset does not always equal a one-point movement in the value of your option; delta values range from 0 to 1 for call options and from 0 to -1 for put options.

Vega - This value measures the sensitivity of an option to changes in the volatility of the underlying asset. It represents the amount that the price of an option will change in response to a 1 percent change in the volatility of the underlying market.

Gamma - This value measures the sensitivity of the delta value in response to price changes within the instrument underwritten

Theta - This value measures the time decrease of an option. The closer the option gets to the expiration date, the more worthless it can become. Theta measures the theoretical dollar value that an option loses each day.