Options trading might sound overwhelming but if you know the right option trading strategies, it is a cakewalk. Stock options trading can be risky and complicated, but with outright and methodical knowledge, you will be able to gain more and cut losses. So, in this article, we have listed the best 10 option trading strategies, you must follow to ace in your trading game.
Options give you the liberty to buy or sell a part of your underlying asset at a predetermined price before or when the contract expires. Options are powerful. They enhance an investor’s portfolio and also offer many advantages. Moreover, they are even capable of generating recurring income.
Traders, time and again, jump into options trading options with limited knowledge about the field. There are a myriad of option trading strategies that limit risks as well as maximize your returns. With a little effort and apt understanding, traders can swiftly learn how to take advantage of the power and flexibility of stock options trading.
Fundamentally what all option strategies have in common are calls and puts. Now, what are calls and puts? Call options give the trader the ability to buy a stock whereas a put option gives the trader to sell the stock. Hence, you can think of a call as a down payment on a future purchase.
To take full advantage of the option trading strategies one must be clear of the concepts like call option basics and future option trading. You can learn about these concepts from different e-learning sites like NSE India, Elearnmarkets, and Udemy. Once you have complete knowledge on these topics, you are ready to learn about the top 10 option strategies, we have listed for you below.
Table of Contents
Top 10 Option Trading Strategies
1. Bull Call Spread
The first strategy to feature in this is the Bull Call Spread. In this strategy, a trader buys calls at a determined strike price and then sells the number of calls at a higher strike price. Both of these call options have a common expiration date as well as an underlying asset.
This is a vertical spread option strategy. This happens when an individual is bullish on the underlying assets and therefore expects a decent rise in the assets’ price. When this strategy is used, investors make sure to limit their upside on the trade and, simultaneously, reduce the net premium spent.
2. Covered Call
One definite strategy with calls is to buy a naked call option. A trader can even structure a buy-write or a covered call. This is one of the most popular option strategies. This lets you generate income and reduce the risks of being long in the stock market. Now, you must be willing to sell your shares at the short strike price. The simple trick for executing this strategy is to an underlying stock and simultaneously sell -or write- a call option on the same shares.
Investors choose this strategy when they have a limited-term position in the stock. Investors might either look for generating income through the sale of call premium or protecting against a prospective decline in the underlying stock’s value.
3. Bear Put Spread
The Bear Put Spread is a form of vertical spread. In this specific strategy, you simultaneously buy put options at a specific price and also sell the exact amount of putts at a lower strike price. Both of these options have the same expiration date and same underlying asset. This strategy is adopted when an individual expects the assets’ price to decline and has a bearish sentiment. This options trading strategy offers limited gains and limited losses.
4. Married Put
In this strategy, an investor buys an asset such as shares of stocks and then simultaneously buys put options for a similar number of shares. The put option’s holder has the right to sell stock at the specified stock price. Each contract is worth 100 shares. Investors select this strategy to protect their downside risk while holding a stock.
This strategy functions somewhat similarly to that of an insurance policy; it initiates a price floor in the event the stock’s price falls drastically.
The investor while using this strategy will be protected during a downside and participate in the upside when the stock gains in value.
5. Protective Collar
To perform a Protective Collar, you need to buy an OTM or Out-of-Money option and then simultaneously write an OTM call option, of a similar expiration, while you already own the underlying asset. Investors use this strategy when a long position in a stock has experienced significant gains.
The protective collar will allow you to have downside protection. This is because the long put helps lock in the potential sale price. However, there is a disadvantage to this strategy that is you may be obligated to sell shares at an increased price. Hence, forgoing the chances of future profits.
6. Long Strangle
In this options trading strategy, you purchase a call and a put option with a different strike price. You buy an OTM put option and an OTM call option simultaneously with the same expiration date on a similar underlying asset. When you use this strategy, you believe that the underlying asset’s price will experience a huge movement, but you are unsure of the movement’s direction.
7. Long Straddle
A long straddle options strategy is one where you buy a call and a put option with a similar strike price with the same expiration date and similar underlying asset. Out of all the option trading strategies, this strategy is adopted when you believe that the underlying asset’s price will move remarkably out of a specific range, but you are unsure of the direction the move will take.
Theoretically speaking, this strategy will give you the opportunity for unlimited gains. Similarly, the maximum loss you will experience is limited to the cost of both options contracts combined.
8. Iron Condor
In this strategy, you simultaneously hold a bear call spread and a bull put spread. This strategy is constructed by selling one OTM put and buying one OTM out of a lower-strike price. This is called a bull put spread. The bear call spread is selling OTM calls and then buying one OTM call of a higher strike call. Both of these spreads then constitute the Iron Condor. All of the options have the same expiration date and are on a similar underlying asset.
Generally, the call and put sides have the same spread width. Iron Condor earns a net premium on the structure and is designed to take an upper hand on a stock experiencing low volatility. Often traders use this strategy to earn a small amount of premium for its perceived high probability.
9. Long Call Butterfly Spread
In this strategy using call options, you will combine both bear spread strategy and bull spread strategy. You will use three different strike prices. Now, all the options have a similar expiration date and will be on the same underlying asset.
This strategy is constructed by buying one in-the-time call option at a low strike price while selling two at-the-time call options and purchasing one out-of-the-money call option. This results in a net debit and is called a “call fly”.
10. Iron Butterfly
The last strategy to feature in this list is the Iron Butterfly. In this strategy, you will sell an at-the-money put and purchase an out-of-the-money put. Simultaneously, you will also sell an at-the-money call and purchase an out-of-the-money call. All options are on the same underlying asset and have a similar expiration date.
Iron butterfly is kind of similar to butterfly spread but Iron Butterfly uses both puts and calls. The long, out-of-the-money put protects against downside (from short put strike to zero) while similarly, the long out-of-the-money call protects against the unlimited downside. The gains and losses are limited within a specific range. This depends on the strike prices of the options.
Why learn Option Trading Strategies from Elearnmarkets?
Elearnmarkets is one of the largest and acknowledged e-learning portals for the stock market. It houses a varied number of courses on the stock market. One of its most popular courses is Certification in Online Options Strategies. This is a jointly certified course by NSE Academy and Elearnmarkets and is led by Mr. Chetan Panchamia. The study materials focus on varied kinds of options, option selling strategies and option trading strategies. You can take an edge in options trading and diversify your portfolio by enrolling in this course. From Basics of market and price action to Bullish and Bearish strategies to Option Greek, this course is a bonanza box.
When option trading strategies are rightfully used, you increase your chances of gain and limit your losses at a large margin. Options trading is an exciting and risky field but with the right application, you can increase your chances of winning. When you have complete knowledge of when to use what strategy, options trading becomes duck soup. So, why wait anymore? Enroll in a course and learn all the nitty-gritty of Options Trading and option trading strategies.