Options trading strategy can be classified into three distinct categories: bullish, bearish and neutral. Options are available to buy or sell in the form of calls and puts. Various combinations of buying and selling calls and puts are the foundation of simple and complex options trading strategies. These strategies can be used to define the risks and rewards of the position.
Bullish options trading strategy is used when the trader anticipates an increase in value of the underlying asset. The most basic bullish strategy is buying a call. This strategy gives the trader the right to buy an asset at an agreed-upon price on or before an agreed-upon date. Buying a call exposes the trader to an unlimited profit potential while limiting the risk to the premium paid for the option. Bull spreads, ratio call spreads and short puts are a few of the many bullish strategies.
Bearish options trading strategy is used when the trader anticipates a decrease in value of the underlying asset. The most basic bearish strategy is buying a put. This strategy gives the trader the right to sell an asset at an agreed-upon price on or before an agreed-upon date. This also provides an unlimited profit potential while limiting the loss to the premium paid for the option. Calendar spreads, bear spreads and selling calls are some of the bearish strategies.
Neutral options trading strategy is used when the trader anticipates that the underlying asset will trade within a specified range of prices. The trader can profit from this type of trade if there is little directional movement in the asset. One of the classic neutral option trades is the covered call, also called a buy write. The trader might own or buy the asset and sell a call to collect the premium. Straddles, strangles and butterflies are neutral strategies.
The combinations of buying and selling puts and calls can be seemingly without end. Many options trading strategies have been organized and automated by option brokers. Choosing the right options trading strategy for a particular trade or circumstance will require a commitment of time.
Before trading, investors should learn and understand the risks involved and the rewards that are possible. The trader should not enter the options arena without a good basic knowledge of how options trading strategies work. There are many websites that offer educational resources at no cost to the trader.