You may be experienced in trading, but jumping into options trading without understanding the common option trading strategies may be costly. Even though options trading offers a wide array of techniques to earn a profit, minimize risk, and generate income, these are effective only when you know about the strategies that you can use.
You can check essential guides from reputable partners, such as interactive brokers options trading requirements, to get an idea of how to delve into options trading. Moreover, the article below has compiled some of the effective strategies that have been used by many experts in options trading.
1. Bullish Option Strategies
Bullish option strategies are used by investors when they anticipate that the price of the underlying assets will rise. These strategies aim to make a profit from upward price movements.
- Bull call spread: This is a debit strategy where the investor sells one call option with a higher strike price and simultaneously buys another call option with a lower strike price. This strategy aims to generate profit when the underlying asset’s price closes above the higher strike price option at expiration.
- Bull put spread: This a credit strategy in which the investor sells a put option at a higher price and buys a put option at a lower price. The maximum profit potential is achieved when the underlying asset’s price closes above the higher strike price at expiration.
- Call ratio back spread: In this option, a higher number of call options are sold than the number of call options bought. In this strategy, the investor anticipates that there will be significant price appreciation in the underlying assets. This helps investors enjoy unlimited profit potential when the underlying asset's price increases significantly.
- Synthetic calls: Synthetic calls mimic the behavior of traditional long call options but are constructed of two components:
- Long stock position: The trader starts by buying an underlying asset
- Short put option: Simultaneously, the trader sells a put option on the same underlying asset with a strike price and expiration date of their choice.
2. Bearish Option Strategies
These strategies are used by investors who anticipate a decline in the price of an underlying asset.
- Bear call spread: In a bear call spread strategy, also known as a credit call spread, the investor sells one call option and buys another with a higher strike price. This strategy helps investors profit from the bearish market while limiting the losses.
- Bear put spread: This strategy is also known as the debit call spread. Here, the investor sells one put option at a lower strike price and simultaneously buys another put option at a higher strike price.
- Strip: In this strategy, the investor procures two put options for each call option sold. This strategy is generally put in place when the investor is pessimistic about an underlying asset.
- Synthetic put: It is a combination of a short position in the underlying asset with a long position in a call option. The advantage of this strategy is that it requires less upfront investment.
3. Neutral Option Strategies
Neutral option strategies are employed when the investor anticipates little to no significant changes in the price of the underlying assets.
- Long and Short Straddles: In the long straddles strategy, the investor buys a call option and a put option at the same strike price with the same expiry date. In short straddles, the investor sells a call option and a put option at the same strike price and same expiry date.
- Long and Short Strangles: In a long strangle strategy, the investor buys a call option with a higher strike price and a put option with a lower strike price. In the short strangles, the investor sells both call and out options at distinct strike prices. This strategy aims to harness the stability of the market to earn profit.
- Long and Short Butterfly: This strategy combines long and short positions in three different options and three different expiry dates.
- Long and Short Iron Condor: This strategy is the same as the butterfly strategy. It combines a long or short call spread and a long or short put spread.
Conclusion
Knowing the crucial strategies before delving into option trading can save you from mishaps. Trading is a continuous learning process, but understanding these strategies can help minimize risk and increase the chances of success in the world of options trading.