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Trade Of The Week: Long Call and Long Put

March 3, 2021

Trade Of The Week: Long Call and Long Put

This week we will look at two basic options trades. When you are learning to trade options the long call and the long put are great places to start.

This week we will look at two basic options trades. When you are learning to trade options the long call and the long put are great places to start.

 

What is a long call option?

A long call is a bullish position and can be very profitable when the market rises quickly.

The buyer of a Call Contract has the right, but not the obligation, to buy an underlying asset at a specified price (strike) for a specified time (until expiry) at an agreed upon premium.

If the stock is trading above the call option’s strike price at expiry, the owner of the call option will exercise their right to buy the stock at the strike price. They can then sell this stock at the higher market price and pocket the difference between the two prices. This is where the intrinsic value of a call option comes from.

So when you hold a call option and the stock price rises above the strike price, the call option contract will increase in value. This is known as being ‘in-the-money’.

Source: Implied Volatility

 

What is a long put option?

A long put is a bearish trade and can be very profitable when the market falls quickly.

The buyer of a put contract has the right, but not the obligation, to sell an underlying asset at a specified price (strike) for a specified time (until expiry) at an agreed upon premium.

 If the stock is trading below the put option’s strike price at expiry, the owner of the put option will exercise their right to sell the stock at the strike price. They can then buy this stock at the lower market price and pocket the difference between the two prices. This is where the intrinsic value of a put option comes from.

So when you hold a put option and the stock price falls below the strike price, the put option contract will increase in value. This is known as being ‘in-the-money’.

 

Source: Implied Volatility

 

Long positions

The great thing about trading long options positions is that you cannot lose more than you put into the market.

With both calls and put options, you have “the right but not the obligation” to buy an underlying asset. If it would not be profitable for you to buy or sell the underlying stock at expiry (given the strike price relative to the stock price), you can just allow your position to expire worthless. This is known as being ‘out-of-the-money’.

That means if you have a long ‘call’ position and the stock is trading below the strike price at expiry, you only lose the upfront premium you paid for the call option.

And if you have a long ‘put’ position and the stock rises above the strike price at expiry, you only lose the upfront premium you paid for the put option.

 

Exercise Styles

There are two main exercise styles used with ASX Exchange Traded Options (ETO’s).

‘American’ options provide the buyer with the freedom to exercise the contract at any time before expiry.

Whereas ‘European’ options only allow the buyer to exercise their position on expiry day.

Most equity options traded on the ASX are ‘American’ options, however there can be ‘European’ options available for certain stocks.

The S&P/ASX 200 index (XJO) options are all ‘European’ options.

 

Settlement

When you exercise your long call or put equity option, you are exercising your right to buy or sell the underlying stock. With equity options, these transactions are settled in the underlying stock based on the closing price of the stock on the day of settlement. Each option contract size is 100 shares per contract by default, (however certain corporate actions may change this value for certain expiry months).

With the XJO index there is no ‘stock’ – the index is a measure of performance across the ASX top 200 companies. It is not practical to settle options positions using 200 different stocks so the index settles on a cash basis. The intrinsic value of the option position will be paid out after expiry day, based on the ‘Opening Price index Calculation’ (OPIC). The OPIC is based on the first traded price of each constituent stock in the index on the expiry day. (If a constituent stock does not trade on the expiry day, the last traded price from the previous trading day will be used). Because the index is a much larger number than equity prices, the index option contract multiplier is only $10 per point.

 

How to trade on the Implied Volatility platform?

To enter into a long call or long put position jump into the ‘strategy builder’ (link in the coloured strip along the top of the page). Then click the green chef’s hat, known as the ‘options cookbook’. The first two strategies listed are the long call and the long put. Click on your preferred strategy, then click on the ‘create strategy’ button.

You can review and edit the option contract (change strike, expiry, and exercise style) which will update the payoff diagram above. When you are satisfied with your preferred option, you can click the green ‘execute strategy’ button on the lower RHS and follow the prompts.

For further information on using the Implied Volatility platform you can click here.

 

To try trading for yourself using the most powerful Options Trading technology in Australia, click here for a trial for our Implied Volatility platform

 We wish you good luck with your trading, and as always if you have any questions, please feel free to contact our trading desk on (03) 8080 5795. Please note, we provide General Advice only. 

 

Past performance is not a reliable indicator of future performance. 

The opinions expressed in this article are our personal views. 

Trading options is not suitable for everyone. There is a risk that you can lose more than the value of a trade or its underlying assets. You should only trade if you are confident that you fully understand what you are doing. If you are thinking about acquiring a financial product, you should consult our Financial Services Guide (FSG) at www.reachmarkets.com.au first. 

 


General Advice Warning

Any advice provided by Reach Markets including on its website and by its representatives is general advice only and does not consider your objectives, financial situation or needs, and you should consider whether it is appropriate for you. This might mean that you need to seek personal advice from a representative authorised to provide personal advice. If you are thinking about acquiring a financial product, you should consider our Financial Services Guide (FSG) including the Privacy Statement and any relevant Product Disclosure Statement or Prospectus (if one is available) to understand the features, risks and returns associated with the investment.

Please click here to read our full warning.

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