There are hundreds of option trading strategies. And they can be vastly different in terms of tactics and desired outcome.
Covered calls are very conservative, for example, while uncovered or "naked" calls are high-risk. How you select them depends on your risk tolerance and comfort level with different degrees of exposure.
But in fact, there are really only a few basic strategies, and everything else is built on these in some form.
At Money Map Press, we use eight general strategies (and "families" of strategies). These will cover most of the approaches you are likely to see and to take in your own trading.
But I do want to mention something first.
This same huge range of possible strategic designs is what makes the options market so interesting, challenging, profitable... and also nice and risky.
Are you surprised by my characterization of risk as "nice?"
Well, "risk" and "opportunity" are really the same thing, and every option trader needs to accept this.
If you want to go fast and get some serious movement, well, you have to climb on board the rollercoaster first, even if it scares you a little bit. Okay, here we go.
Today we'll take a deeper look at four of the eight options strategies we use on a routine basis.
The long call is a cinch. You simply buy a call – often for as little as 5% of the value of the 100 shares it controls.
You wait for the underlying to rise in value, which is what you're betting on. And then you either sell the call (at a profit) or exercise it.
Now, as attractive as the long call may be at first glance, it is not easy to make money consistently. It's a matter of time, timing, and proximity, and almost never a matter of price only.
Let me explain that.
Time describes the endless dilemma of the long call trade. You want to find the cheapest long call you can, knowing that you need to build profits, not just above the strike, but far enough above to cover your cost, too. So the more expensive the call, the further the price needs to move. At the same time, focusing on cheap calls will leave you with very little time for the call to appreciate.
Timing is the key to creating profitability in long call positions. If you are going to pick calls at random, you'll lose more often than you'll win. But if you know how to time your trade, your odds of profiting go way up. All ETFs, and indexes go through predictable cycles. The time to buy calls is right when the underlying is at the bottom of a cycle. This is where the chances of reversal and upward movement are highest, whether you seek a five-day turnaround or a two-month turnaround. Whatever your timeframe, timing is key.
Proximity is the third decision point in picking a long call. The distance between the price of the underlying and the option's strike is what determines not only current premium price, but how responsive that price is going to be to movement in the underlying. When the two are far apart, you cannot expect a lot of point-for-point reaction, even in the money. The extrinsic value (implied volatility) will dampen reaction due to the distance.
In other words, the further away from the strike, the less the underlying price matters in terms of option premium. This is especially true for deep OTM (out of the money) options. The way the market prices options, the less chance that price will catch up to strike, the less faith there is in even strong price movement.