Options are a kind of derivative contract that allows purchasers the right (but not the duty) to buy or sell a securities at a future price. Sellers of options charge purchasers a premium. If market prices are unfavourable, option holders will let the option expire worthless and not exercise this right, limiting possible losses to the premium. If the market changes, it uses this right Options Trading Singapore: Call and Put Options + Strategies.
“Call” and “put” options are common. A call option gives the buyer the right to acquire the underlying asset at a future exercise price or strike price. With a put option, the buyer may sell the underlying asset at a specified price.
Let’s look at how a new investor might utilise calls or puts to reduce risk. these two entail hedging existing investments.
- “Cover calls”
A covered call is a strategy that builds on an existing long position in the underlying asset, unlike a long call or long put. It is basically selling an upside call in an amount that would cover the size of the existing position. In this way, the covered call writer gets paid the option premium, but the underlying position’s upside potential is limited. This is the position of choice for traders who:
- Expect the price of the underlying asset to stay the same or go up by a small amount. premium
- are willing to limit the upside in exchange for some protection from the downside
In a covered call strategy Options Trading Singapore: Call and Put Options + Strategies, you buy 100 shares of the underlying asset and then sell a call option on those shares. When the trader sells the call, he or she gets the option’s premium. This lowers the cost basis of the shares and gives some protection against a drop in price. In exchange, when a trader sells an option, he or she agrees to sell shares of the underlying asset at the strike price of the option. This limits the trader’s upside potential.
- Protective Puts
A protective put is when you buy a downside put for enough money to cover a position you already have in the underlying asset. In effect, this strategy sets a lower floor below which you can’t lose more. The option’s premium is something you will have to pay for, Options Trading Singapore: Call and Put Options + Strategies. In this way, it’s like having insurance against losses. This is the best strategy for traders who already own the underlying asset and want protection against a drop in its value.
So, a protective put is a long put, like the strategy we talked about above. However, as the name suggests, the goal is to protect against a drop in price instead of trying to make money from a drop. A trader can buy a protective put if they own shares that are expected to go up in the long run but they want to protect themselves against a drop in the short term.
If the price of the underlying asset goes up and is higher than the strike price of the put when the option expires, the option is worthless and the trader loses the premium, but the higher price of the underlying asset is still good for them. On the other hand, if the price of the underlying asset goes down, the trader’s portfolio position loses value. However, the gain from the put option position more than makes up for this loss. So, the position can be thought of as a way to protect yourself.
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