Many well-liked options strategies exist which will let monetary market traders take an edge that comes with a selected market read. Option strategies may also facilitate investors defend or enhance their come back on an underlying position.
In this article, I would like to share with you four main options strategies that I believe every option trader or investor should know about. Whether you choose to employ these strategies or not it is really up to you depending on your trading style, your goals, and the way you like to trade. But at least if you have some insight behind these options strategies, you will be able to be more flexible during different market conditions or different conditions of the stock. So for some people, if they only employ one of the strategies and that is the strategies you stick with, you may not be as active. It is because certain strategies may be better suited during different times of the market. So, the following are the options strategies.
Covered Call Option Strategy
Usually, the covered call option strategy is employed or used when you have some stock in a long position. So you are already looking for that stock to go higher. However, for the short term, you believe that stock is going to consolidate or move sideways or may not move that fast to the upside. So what you can do is sell some options premiums such as selling a call a little bit further, a little bit higher. This allows you to collect some premium from the option and still hold your stock. Now, if the stock does continue to move higher towards your call price and it hits it, you may lose your stock if somebody chooses to exercise their option right. But in general, if the stocks stand still, you will collect option premium and you will still have your stock. So you do not need to understand the upside and the downside. So covered call is the first option strategy that a lot of beginners and people that are just getting into options start with after buying and selling stock.
A vertical spread is a directional play in the stock. So you can either look at the stock for it to go higher if you are doing a bullish vertical spread or lower if you are doing a bearish vertical spread. So what this does is it allows you to buy a call and sell a call at different price ranges. It also allows you to capitalize as that stock moves further. Now, on the put side, you can do the same thing and this would help create your bearish vertical call. You are looking for a directional play in the stock. It allows you to use less capital and less premium in terms of moving that stock or profiting from the stock movement. But there is a downside risk, because if you do not get that stock to move in a certain period then you will lose your premium. It depends on how long you hold on to it if you manage to get out of the position before the option expires. Then you will collect some of the premium back. However, if you hold on to it until expiration and the stock did not move, then you will lose out premium or the capital that you use to invest in that vertical spread.
A butterfly is very flexible and the reason it is called a butterfly’s kind is that it looks like a butterfly. It has some wings on the end but really what happens with the butterfly is you are selling to option contracts right there in the center or in the middle of your spread. You have two protective option contracts on the other side. So, what you are doing is you are buying one on one and the other on the other end for protective reasons. Then you are selling two in the middle. So what happens is, as time decays and the stock does not move, you are collecting that option premium as the stock price is shifting in between these price levels. Now, you can also put on a directional-based butterfly. So you can put it a little bit further out to the bullish side or the bearish side if you are looking for a price movement or a little bit of movement in the stock either to the upside or the downside. But this option strategy is really good in terms of collecting premium. It is because you have two options contracts concentrated right there in that center of that butterfly-looking spread.
It is you are trying to capitalize again from option deterioration. It looks similar to a butterfly but the difference between the butterfly and the calendar is that the calendar is usually offset in terms of buying and selling your options in separate months. Whereas, in the butterfly, all of your contracts are in one single month. In a calendar what happens is that it is typically as options deteriorate, they deteriorate the most towards that last 30 days before the whole contract is worthless.
Now with a calendar spread, what happens is you are selling an option contract in the front month or the closest month and you are buying one for protection in a later month. So that means the earlier month contract expires quicker. But then the later one expires a little bit slower. So because the expiration curves are a little different, you are capitalizing and gaining that premium every single day. As the options contract deteriorate quicker in the first month that you are approaching and coming into rather than the later months that you have bought protection in. So, you always need to be cautious and you can also put these spreads on a little bit more bullish or bearish similar to the butterfly spread.