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Option Trading Strategies Overview |
Option Trading Strategies Overview
Option trading can be as profitable as it is risky.
Since there are two classes of options, namely puts and calls, that can
be both shorted (sold with the view of establishing a position) and
longed (bought for that reason) used in bearish as well as bullish
markets, the number of possible strategies to be developed is almost
unlimited.
Joining option trading market lets you profit from upside to downside
price movements, and even from stock stagnancy!
There are four main types of strategies followed in option trading.
These are bullish market strategies, bearish market strategies, neutral
and special ones.
However, specialists suggest that before adopting certain option
trading strategies we make sure it is well understood: every option
loses all of its time value in the end, every
‘out-of-the-money’ option expires worthless, and
–
more than a half of market activity fall to sideway movements.
The strongest position in bullish option trading is call-buying. It is
popular as losses are limited only to the premium paid. Investors adopt
this strategy for undervalued options with growing volatility.
Put-selling, on the other hand, is a neutral option trading strategy
suitable for use at bullish markets with high volatility. Profit here
is defined by the premium obtained.
Two more bullish option trading strategies include
purchasing
vertical bull call spreads (that is, buying calls and selling calls of
higher strike price) and selling vertical bear put spreads (selling
puts and buying puts of lower strike price). The losses for the former
are limited to debit and for the latter – to the spread
between
the strike price and the credit.
One of the strongest bearish option trading strategies is put-buying
implemented for undervalued options with volatility going up. As with
the respective bullish option trading strategy here you can only lose
the premium.
If the option is overvalued and the market is either steady or getting
bearish, it may be reasonable to use a neutral bearish position and
sell a call. Profits equal to the premium.
Other option trading strategies are vertical bear put spread buying and
vertical bull call spread selling.
As for the neutral markets, option trading strategies include Strangle
(using time value at maximum), Arbitrage (simultaneous purchasing and
selling of similar options), Calendar (selling (buying) options in the
near month and purchasing (selling) in the far month - basing on the
assumption that near month time value falls faster, Ratio Call (buying
calls and selling calls of higher strike price) as well as Guts
(popular for the large premium), Butterfly, Box and Conversion
(profitable for sure if adopted at credit).
More useful information on the topic of option trading can be found in
the articles Basic
Principles of Option Trading, Successful Option
Trading, etc.
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