Introduction
Options trading in India is prevalent, as it offers a low-cost way to leverage one's capital and generate high returns. According to Bloomberg's past report, India's index options market is the biggest in the world, with a 99.6 per cent share of trading volume at NSE.
This trading speculates the price movements of various underlying assets, such as stocks, indices, commodities, currencies, and more. It can be advantageous but also very risky, depending on the strategies you use. Several options trading strategies can help you limit your losses, increase your profits, and take advantage of different market scenarios. Here are some of them.
Best Option Trading Strategies
1. Long Call
This involves buying a call option of an asset that you expect to rise in price. You pay a premium to buy the option. Then exercise it before expiry to purchase the underlying asset at the strike price. The loss here is limited to the premium you paid. The maximum profit is unlimited, as the asset price can rise indefinitely. This strategy is suitable if you are bullish investors who want to leverage their capital and benefit from a strong upward movement in the asset price.
2. Long Put
This is the opposite of a long call, as it involves buying a put option on an asset that you expect to fall in price. You pay a premium to purchase the contract and can exercise it before it expires to sell at the strike price. The maximum loss is restricted to the options premium. The maximum profit is limited by the asset price reaching zero. This strategy is suitable if you are a bearish investor and want to leverage your capital and benefit from a solid downward movement in the asset price.
3. Covered Call
This more conservative strategy involves owning the underlying security and selling a call option on it. You earn a premium for selling the option, which reduces your cost basis and provides some downside protection. However, you also limit your upside potential, as you have to sell the asset at the strike price while exercising the option. This strategy is ideal for neutral or mildly bullish investors who want to generate income from their existing holdings or buy new shares at a lower price.
4. Protective Put
This is another conservative strategy involving owning or buying the underlying asset and buying a put option. You pay a premium for the contract, which increases your cost basis and reduces your profit potential. However, you also gain downside protection, as you can exercise the option to sell the asset at the strike price if the market falls. This strategy suits neutral or mildly bearish investors who want to hedge their existing holdings or buy new shares with less risk.
5. Bull Call Spread
This moderately bullish strategy involves buying a call option with a lower strike price and selling another one with a higher strike price on the same underlying asset and expiration date. You pay a net premium for entering this spread, which is your maximum loss. The maximum profit is the difference between the two strike prices minus the net premium, which occurs when the asset price is above the higher strike price at expiration. This strategy is suitable for bullish investors who expect a moderate rise in the asset price and want to reduce their cost and risk compared to a long call.
6. Bear Put Spread
This is another moderately bearish strategy. You purchase a higher strike put option and sell a lower strike put option on the same asset and expiration date. You pay a net premium for entering this spread, which is your maximum loss. The profit is capped at the gap between the two strike prices deducting the net premium, realised when the asset price is below the lower strike at expiry. This strategy is suitable for bearish investors who expect a moderate fall in the asset price and want to reduce their cost and risk compared to a long put.
7. Long Straddle
This neutral strategy involves buying a call and a put option having the same expiration and strike price on an underlying asset. You pay a high premium for entering this position, which is your maximum loss. Your maximum profit is unlimited in either direction if the asset price moves significantly away from the strike price by expiration. This strategy is suitable if investors who expect high volatility in the asset price and want to profit from large movements in either direction.
Conclusion
Above are only a few options for strategies. You can explore and experiment with many more depending on your risk appetite, market outlook, and trading objectives. But before you proceed with any, have a thorough knowledge of what's happening in the global and domestic markets. Watch the news related to the contract's underlying asset.
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