Long straddle

Options strategy example, Bearish Strategies

The forecast must predict 1 that the stock price will rise so the call increases large options price and 2 that the stock price rise will occur before expiration.

options strategy example

Strategy discussion Buying a call to speculate on a predicted stock price rise involves limited risk and two decisions. The maximum risk is the cost of the call plus commissions, but the realized loss can be smaller if the call is sold prior to expiration.

Option buyers are charged an amount called a "premium" by the sellers for such a right. In contrast, option sellers option writers assume greater risk than the option buyers, which is why they demand this premium. Options are divided into "call" and "put" options.

The first decision is when to options strategy example a call, because calls decline in price when the stock price remains constant or declines. The second decision is when to sell, because unrealized gains can disappear if the stock price reverses course and declines.

options strategy example

Many investors who buy calls to speculate have a target price for the stock or for the call, and they sell the call when the target is reached or when, in their estimation, the target price will not be reached. Impact of stock price change Call prices, generally, do not change dollar-for-dollar with changes in the price of the underlying stock. Rather, calls change in price based on their "delta.

options strategy example

Impact of change in volatility Volatility is a measure of how much a stock price fluctuates in percentage terms, and volatility is a factor in option prices. As volatility rises, option prices tend to rise if other factors such as stock price and time to expiration remain constant.

options strategy example

As a result, long call positions benefit from rising volatility and are hurt by decreasing volatility. This is known as time erosion.

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Long calls are hurt by passing time if other factors remain constant. Risk of early assignment The owner of a call has control over when a call is exercised, so there is no risk of early assignment.

Potential position created at expiration If a call is exercised, then stock is purchased at the strike price of the call.

options strategy example

If there is no offsetting short stock position, then a long stock position is created. Therefore, if a speculator wants to avoid having a long stock position when a call is in the money, the call must be sold prior to expiration.

Other considerations When calls are purchased to speculate, it is assumed that the investor does not want to own the underlying stock.

options strategy example

Options strategy example many cases, in fact, there is not sufficient cash in the account to pay for the stock, even in a margin account. Therefore, it is generally necessary for speculators to watch a long call position and to sell the call if the target price is reached or if the call is in the money as expiration approaches.

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