Many popular options strategies exist that can let financial market traders take a position that incorporates a specific market view. Options strategies can also help investors protect or enhance their return on an underlying position. This article provides an introduction to the best trading strategies that everyone interested in using options should know about.
The Best Options Strategies:
- Long Call or Put
- Naked Short Call or Put
- Covered Write
- Bull or Bear Spreads
- The Best Options Strategies:
- Picking an Options Strategy
- Best Options Trading Strategies
- Study Additional Trading Strategies
- Best Online Option Brokers
- Before Getting Into Options Trading
- Frequently Asked Questions
Picking an Options Strategy
Many classic options trading strategies exist, but not all are suitable for every trader or investor at any particular time. You should make sure to use strategies that suit your personal risk tolerance and encapsulate your market view over the lifetime of the included options. For example, selling naked put or call options or using a covered write strategy can potentially expose you to an unlimited risk of loss if your market view turns out to be incorrect.
Ensure that you can stomach any potential losses before getting into an options position since unwinding option trades before expiration can involve additional unanticipated costs due to dealing spreads, time elapsed since the trade was initiated, and changes in implied volatility or other option valuation factors.
One common way traders visualize the risk and reward taken when using a particular options strategy involves plotting the payoff or profit and loss (P&L) profile of the strategy at its expiration date. These charts typically have profit or loss displayed on the Y-axis and levels of the underlying asset displayed on the X-axis. Kinks in the strategy’s plotted profile generally occur at the strike prices of any options it includes.
Once an experienced options trader has plotted the payoff profile of any options strategy they are considering picking, their trained eye can then often quickly see if the strategy would be suitable to profit adequately from their market view without exceeding their tolerance for risk.
Best Options Trading Strategies
Some of the more popular options trading strategies that just about everyone can understand and implement if they have the authority to execute are below. These involve using one or more options with a single expiration date.
Long Call or Put
A long call or put strategy involves simply purchasing the desired option. In the U.S. stock market, each stock options contract covers 100 shares. A stock option holder has the right to buy 100 shares of stock in the case of a call or sell 100 shares of stock in the case of a put at the option’s strike price at any time up to and including its expiration date.
Investors and traders can purchase options as a way of limiting their downside risk when holding or shorting a stock. A long option position acts as an insurance policy by establishing a worst cast price and a loss limited to your initial premium paid for the option in case your market view turns out to be wrong.
Consider an example where you have a bullish view and so buy one call option on 100 shares of stock with a strike price of A. Your downside is limited to the premium you paid in case the market declines, while your upside is potentially unlimited if the market rises. Your breakeven is equal to the strike price of the option plus the premium paid.
A payoff diagram of a long call option with a strike price of A. Source: TheOptionsProphet
In the option payoff diagram above, the blue line represents the payoff of a call option position. Losses are limited to the initial premium paid below the strike price A, while the breakeven of the strategy is the point at which the diagonal line crosses the X-axis.
Naked Short Call or Put
A short call or put strategy involves simply selling or “writing” an option “naked,” which means without having an underlying stock position. A stock option writer has the obligation to sell 100 shares of stock in the case of a sold call or buy 100 shares of stock in the case of a sold put at the option’s strike price anytime up to and including the option’s expiration date.
If your broker allows you to, you can sell put or call options as a way of taking in premium money when your market view is respectively bullish or bearish on the underlying stock. While your profits are limited to the premium paid, your potential losses would be unlimited in case your market view is wrong.
Consider a situation where you are bearish and decide to sell 1 call option on 100 shares of stock with a strike price of A. Your downside is potentially unlimited in case the market declines, while your upside is limited to the premium you took in if the market rises. Your breakeven is equal to the strike price of the stock minus the premium paid.
A payoff diagram of a sold call option with a strike price of A. The breakeven of the strategy is the point where the diagonal line crosses the X-axis. Source: Fyers
If you have an underlying long or short position in an asset, then you can sell call or put options against it. Many choose to increase the income on stock holdings in relatively stagnant market conditions by selling covered calls, which is sometimes also called a buy-write strategy. If the option ultimately ends up being exercised, then you will need to deliver your underlying position into the option contract.
This options strategy buffers any potentially unlimited losses you might take on the underlying position in the amount of the premium you receive for selling the option. In addition, your gains are limited to the premium you received beyond the strike price of the option. Note that this strategy has the same payoff profile as a short option position.
Say you sell a call option on 100 shares of a stock you own. If the stock price rises to the strike price of the call, you will simply deliver the stock into the call option when it is exercised, and any losses on the call option beyond that point are offset by gains on the underlying long stock position. If the stock price falls, then you will get the premium from selling the call option to buffer any losses on your stock position.
The payoff diagram of a covered call write strategy where you buy 100 shares of ABC stock at $100 per share and sell a call option on 100 shares with a 100 strike price for $5. As shown, the strategy has a breakeven share price of $95. Source: VantagePointSoftware
Bull or Bear Spreads
Options traders can use equal amounts of either calls or puts to create bullish or bearish strategies with limited upside and downside. In a so-called “vertical” spread, both options will have the same underlying asset and expiration date.
As an example, a trader with a mildly bullish view could buy a call at a lower strike price and sell a call at a higher strike price. This strategy would have a reduced net premium compared to buying the lower strike price call alone, although traders would not be able to profit from a rise in the underlying asset beyond the higher strike price of the sold call.
A payoff diagram of a bull call spread that involves buying a call with a strike price of A and selling a call with a strike price of B. The breakeven of the strategy is the point where the diagonal line crosses the X-axis. Source: Fyers
Study Additional Trading Strategies
Increasing your understanding of the options market allows you to experiment with various trading strategies. Just as we advise readers to diversify their portfolios, you can also diversify your trading strategies. Consider researching additional options strategies, including:
- Iron Condor: Simultaneously holding a bull put and bear call spread
- Iron Butterfly: Sell an at-the-money put, buy an out-of-money put and repeat the process as cover
- Long Strangle: Buying and out-of-money put and out-of-money call at the same time
- Long Straddle: Buying a put and call option at the same time
- Protective Collar: Buying an out-of-money put and writing and out-of-money call simultaneously
Best Online Option Brokers
Not every online broker will allow you to trade options, so make sure you select a broker that does. You will also want to check that any online broker you are considering is duly regulated in their local jurisdiction and takes clients from your country. To make selecting a broker easier, the following table shows Benzinga’s picks for the best online options brokers.
Options commissions range from USD 0.15 to USD 0.65 per US options contract with Interactive Brokers. You can generate extra income with the Write/Rollover Options tool. The Write tool scans your stock positions and calculates the number of covered options to write against your uncovered stock. Use the Rollover tool to roll over options that are about to expire to a similar option with a later expiration date.
The Options Portfolio continuously and efficiently scours market data for low-cost option strategies to bring a portfolio in line with user-defined objectives for the Greek risk dimensions (Delta, Gamma, Theta and Vega).
Tradier is a high-tech broker made with the most active traders in mind. Tradier differentiates itself by using Application Programming Interface (API) technology to partner with popular trading software to offer a wide range of platform choices to Investors. Tradier brokerage offers integration with one of the widest ranges of platforms we’ve seen, including Esignal, Orion Multi Trader, Stockstotrade, 1Option, Evati, and many, many more.
Tradier offers 2 pricing options — infrequent traders may want to opt for Tradier’s 0 Stocks and $0.35 per Options contract trading, while very active traders can often save money by opting into Tradier’s $30 monthly all-inclusive option and Equity, which cuts commissions entirely.
Tradier TradeHawk platform is exceptionally impressive, combining intuitive 1-click order placements with a vast range of indicators and charting tools. TradeHawk is also completely compatible with both Apple and Android mobile devices. Though we’d love to see Tradier expand into mutual funds and offer a bit more in the way of educational tools, the broker remains a top choice for advanced traders and those looking for enhanced customization options.
- Very active options traders who would benefit from a flat-rate monthly charge instead of per-contract fees.
- Advanced traders looking for a customizable broker with a wide range of platforms that can be integrated.
- Prominent options traders get high-quality execution, real-time market data and subscription trading.
- Wide range of integrated platforms provide an option for any trader.
- All-inclusive per-month subscriptions available in lieu of per-contract commissions.
- Platforms are powered by quality real-time market data and execution.
- Newer traders may prefer a platform with fewer integration choices and a more streamlined approach.
- No online mutual funds currently available.
It seems like new digital investment management platforms are sprouting up left and right, and for good reason — there’s a great need for easy, straightforward investment management that doesn’t cost an arm and a leg in fees or to get started. If you’re new to investing or an old hat who wants to make the switch to a virtual manager, deciding which features you need can be confusing if not overwhelming.
If you want a no-frills financial management platform, Axos Invest (formerly WiseBanyan) takes a traditional but sophisticated approach to automated online investing.
- Traditional investors trying out an automated investor for the first time
- New investors that want to take a hands-off approach to portfolio management
- Straightforward automated investing
- Relatively low account minimum and automated investing fee
- A solid roster of available investment account types
- Not a stand-out from other services if you’re someone who likes all the bells and whistles with your digital financial platform
- No direct relationship with a human financial advisor
Webull, founded in 2017, is a mobile app-based brokerage that features commission-free stock and exchange-traded fund (ETF) trading. It’s regulated by the Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA).
Webull offers active traders technical indicators, economic calendars, ratings from research agencies, margin trading and short-selling. Webull’s trading platform is designed for intermediate and experienced traders, although beginning traders can also benefit.
Webull is widely considered one of the best Robinhood alternatives.
- Active traders
- Intermediate traders
- Advanced traders
- Commission-free trading in over 5,000 different stocks and ETFs
- No account maintenance fees or software platform fees
- No charges to open and maintain an account
- Leverage of 4:1 on margin trades made the same day and leverage of 2:1 on trades held overnight
- Intuitive trading platform with technical and fundamental analysis tools
- Does not support trading in mutual funds, bonds or OTC stocks
Interactive Brokers is a comprehensive trading platform that gives you access to a massive range of securities at affordable prices. You can buy assets from all around the world from the comfort of your home or office with access to over 135 global markets. Options, futures, forex and fund trading are also available, and most traders won’t pay a commission on any purchase or sale.
IBKR is geared primarily toward experienced traders and investors but now with the availability of free trades with IBKR Lite, casual traders can also acclimate to IBKR’s offerings.
- Options traders
- Traders trading 24/7
- Sophisticated investors
- Access to International markets
- Advanced trading platform & suite of options trading tools to create & execute sophisticated trading strategies
- Fixed fees offer infrequent traders low, flat rate per contract, inclusive of all fees
- Tiered fees offer active traders lower cost per transaction and possible exchange rebates for higher volumes
- Beginner investors might prefer a broker that offers a bit more hand-holding and educational resources
Charles Schwab is a solid choice for traders of all skill levels. It offers full access to the U.S. equity and options markets as well as 30 international markets. Traders can create a diverse portfolio with $0 commissions and no account minimums. Schwab’s margin trading is expensive but Schwab makes up for it with affordable futures and options trades, along with a comprehensive mobile offering.
- 3 trading platforms perfectly in sync makes matching your platform to your skill level a snap
- Excellent futures trading education for new traders
- $0 account minimum means anyone can start trading
- Wide range of available assets to trade, including futures and 30 global markets
- SmartStreet Edge platform is powerful enough for advanced traders, yet easy enough for new traders to utilize
- Unique educational resources (like infographics and podcasts) make learning fun
- Margin rates are more expensive than competitors
- More limitations on available margin than competitors
- Expensive mutual funds
TradeZero is an online broker and free stock trading platform that provides everything you need to successfully share and trade, including round-the-clock customer support. TradeZero provides four different trading state-of-the-art software programs with its services, a locator for sourcing shares for shorting, commission-free trades, and real-time streaming, to name a few of the features promoted on their website. The software is a unique and (potentially) affordable option for anyone interested in stock trading.
- Traders seeking high transparency and mobility in a stock trading program
- Those attracted to commission-free trades
- Those seeking a free version of a high-quality trading program
- 24/7 live customer support
- Uses ZeroWeb technology, a powerful level 2 online platform with direct market access
- Mobile app allows users to access stocks and trade in real-time while on the go
- Enforces Pattern Day Trading restrictions (accounts need to maintain a daily equity balance of at least $25k)
- Mobile app could offer more features
Before Getting Into Options Trading
If you’re new to the options market, avoid jumping into it without fully understanding how these derivative products work and what the risks are by using them. Educate yourself about options trading by reading expertly-written books and articles — your prep can help to avoid pitfalls.
Plotting and reviewing payoff profiles for any options strategies you’re considering entering into also generally makes sense. This allows you to assess the upside and downside potential of an options trade and lets you know when you might need to anticipate or take evasive action after a market shift.
Frequently Asked Questions
What options strategy has the highest amounts of risk?
Selling uncovered calls has the most risk.
What are the biggest options trading mistakes?
The most common ones include trading in illiquid options, no exit strategy and making up for previous losses.
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