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Options Trading Strategy:
Buying Calls

Buying calls or puts are the most popular options trading strategies among retail traders. There are no margin requirements for this type of trading and an options investor can try buying calls with a relatively small portfolio.

If an options trader is expecting the market to go up he/she can buy calls with expectations to profit from a bullish movement. A call gives to the owner the right, but not the obligation, to buy an asset at a specific price (the strike price), on or before a specific date (the expiration date). If the price of the underlying stock goes up, the call price goes up. If the price of the underlying stock goes down, the call price goes down.

For example, if you buy a QQQQ options calls at $2.00 and the next day QQQQ stock raise 1%, your calls may increase in value by 20%. You may then decide to sell the calls and fix a 20% profit, or if your view on the market is still strongly bullish you may decide to wait and sell the calls later, in expectation of bigger profits. On the other hand, if after buying QQQQ call options the QQQQ stock goes down, then the value of the bought call options will decrease.

An options buyer should always be aware that time plays against him. Even if the market moves flat, the value of the calls may drop within a couple of days. The closer to expiration the calls are the more sensitive then they are to the time factor. When you buy call options you cannot hold them as stocks. Options loose their value with time - the closer they are to the expiration, the cheaper they become. When a trader initiates the position, it is important to set a specific target price for the option and it is a good strategy to sell and take profits, when the price reaches the target. As the price is rising, be careful that greed does not become a too strong of a motivator and make you want to increase your price target. Doing this, a trader can sometimes turn a winning position into a losing position.

The maximum loss a call options buyer may experience is 100% of the amount invested in the call options. The potential profit is theoretically unlimited.
Depending on the trading style and risk tolerance, an options buyer may chose to buy different types of call options that may vary by strike and expiration. The most traded options are nearest in the money call options. They are considered more or less safe and the reaction of the options price to the changes in the price of the underlying stock is still big. The deeper in the money call options are considered more conservative; however, they are more expensive. The cheaper (out of the money) call options are considered more risky and the cheaper (more out the money) they are, a bigger move in the underlying stock is required to trigger changes in the call price.

For instance:

If at the current moment the QQQQ stock is traded at $44.56

  • the $44 strike call options are nearest in the money options and may cost $1.50
  • the $36 strike call options are deep in the money options and may cost $4.00
  • the $45 strike call options are nearest out the money options and may cost $1.00
  • the $48 strike call options are deep out the money options and may cost $0.05

Now, if the QQQQ go up by 1% the value of the $44 and $45 strike call options may increase by 20%, the value of the $36 strike put options may increase by 15% and the value of the $48 strike options will most likely remain unchanged. Since the QQQQ options price changes by $0.05 it may require a 5% QQQQ raise to increase the value of $36 strike put options from $0.05 to $0.10 (by 100%) and time is not on the side of the put buyer...

Another parameter that a put options buyer has to define is options expiration. The closer to the expiration the cheaper call options are, however, they are very sensitive to time and they are considered more risky. As a rule 2-3 month expiration options are considered more conservative and the price of these options are not critically affected by the short period of time.

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The Information on the Site is provided for information purposes only. The Information is not intended to be and does not constitute financial advice or any other advice. The trading of stocks, futures, commodities, index futures or any other securities has potential rewards, and it also has potential risks involved. Trading may not be suitable for all users of this Website. Past performance is not necessarily an indication of future performance. You absolutely must make your own decisions before acting on any information obtained from this Website.

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