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There are two classes of options, namely calls and puts.
Since options can be longed or shorted, basically there are
four main types of trading strategies in option trading.
|
+
(CALL) |
-
(PUT) |
| + LONG |
+ (A) |
- (C) |
| - SHORT |
- (B) |
+ (D) |
| (A) Long -
Call |
Premium
Paid |
Right (to
exercise) |
| (B) Short
- Call |
Premium
Received |
Obligation
(to fulfill the transaction) |
| (C) Long -
Put |
Premium
Paid |
Right (to
exercise) |
| (D) Short -
Put |
Premium
Received |
Obligation
(to fulfill the transaction) |
| Strategy |
Result |
Explain |
Maximum
Profit/Loss |
(E) Long - Call
(+) (+) |
+ |
Bullish View |
Profit: Unlimited
Loss: Premium paid only |
(F) Short - Call
(-) (+) |
- |
Bearish View |
Profit: Premium
received only
Loss: Unlimited |
(G) Long - Put
(+) (-) |
- |
Bearish View |
Profit: Limited
only by stock declining to zero
Loss: Premium paid only |
(H) Short - Put
(-) (-) |
+ |
Bullish View |
Profit: Premium
received only
Loss: Up to full value of the stock |
The above strategies can be divided into bullish view and
bearish view:
1. Bullish View
Long Call
Underlying stock price is expected to reach the strike price,
unlimited upside gain with maximum loss limited to the premium
paid.
Short Put
Underlying stock price is not expected to fall below the
strike price, huge downside risk with maximum gain limited to
the premium received.
2. Bearish View
Long Put
Stock price is expected to fall below the strike price, huge
downside gain with maximum loss limited to the net premium
paid.
Short Call
Stock price is not expected to reach the strike price,
unlimited upside risk with maximum gain limited to the premium
received. Investor should have a stop loss plan in place and
stick to the plan to prevent unlimited upside risk.
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