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The Differences Between Buying vs Selling Options

September 25, 2019 by Daniels Trading| Futures 101

From active speculation to risk management, traders take advantage of the unique flexibility of options on a routine basis. However, in contrast to standardized futures products, trading options requires a bit more expertise. Let’s examine the mechanics of buying and selling options contracts.

Options 101: Buying Calls and Puts

No matter what product you’re trading, buying and selling are typically the two basic actions. In most markets, when a buy order is executed, a new long position is opened. For a sell, either an existing long is closed or a new short position is created at market. These actions are an essential part of the futures, currency, and equity trades.

By comparison to more traditional securities, the functionality of options is unique. While it’s true that buying and selling options contracts are key elements of active trading, each may be accomplished in numerous ways using calls and puts. Here is a quick breakdown of each:

  • Calls: The buyer of a call option has the right to purchase the contract’s underlying assets at a specified price (i.e. strike price) on or before a forthcoming date in time.
  • Puts: The buyer of a put option has the right to sell the contract’s underlying assets at a specific price on or before a forthcoming date in time.

When you buy a call or put option, the premium is the price paid for the opportunity to execute the contract according to its specifications. The premium is the liability assumed by the trader: If a beneficial move in price deems a contract to be “in the money,” a financial gain may be secured only after the premium is exceeded.

Read tips and tricks compiled from the advice of experienced futures brokers in our e-book:Basic Training for Futures Traders

Strategies for buying calls and puts may be crafted to favor either the bullish or bearish side of the market. For example, when you buy a call option, you open a long position and profits are realized from price appreciation. If you buy a put, you assume a bearish stance, with gains banked from falling asset prices.

Options 101: Selling Calls and Puts

In contrast to buying calls and puts, selling options is counterintuitive. Instead of paying the contract’s premium for the right to buy or sell at some future point in time, you collect the premium upfront and are “assigned” the obligation to sell a product, if exercised. This is a key distinction because liabilities of uncovered positions are potentially unlimited.

When you sell or “write” an options contract, any number of strategies may be put into play using calls and puts. Here are a few:

  • Calls: Selling calls is one way investors insulate long-term positions from short-term drawdowns in value. By selling a call, falling asset prices ensure that the premium is realized as profit. These types of strategies favor a bearish market bias and are commonly executed in the equities markets.
  • Puts: When a trader sells a put, a bullish position is essentially opened in the market. The contract represents an obligation to buy at the distinct strike price at some point before expiration. Thus, if asset values hold firm above strike, the contract expires worthless, and the premium becomes realized profit.

Is It Better to Buy or Sell Options?

It’s no secret that market participants selling options typically outperform buyers at a near 60/40 clip. The odds favor the party that writes the contract, due to the concept of time decay.

Options contracts are perishable securities in that they have an expiration date. As time passes, the chances for “out of the money” positions to expire worthless grows. In addition, periods of low volatility can hamper the odds of significant pricing variations above and below strike. This is an important element of options and another that favors the seller.

So, if the chances of success are skewed in favor of the contract writer, why doesn’t everyone sell options? Simply put, the answer is risk. Upon writing an option, the seller is assuming a potentially unlimited risk. If not properly covered by separate market positions, periods of high volatility or untimely Black Swan events can cause catastrophic losses. This was the driving force behind the $150 million meltdown of optionsellers.com during the Fall 2018 natural gas rally.

Is Selling Options Right for Me?

Before adopting any financial plan, it’s essential to speak to an industry professional. To learn if selling options is right for you, schedule your complimentary one-on-one conversation with a member of the Daniels Trading team today.

Basic Training for Futures Traders

Filed Under: Futures 101

About Daniels Trading

Daniels Trading is an independent futures brokerage firm located in the heart of Chicago’s financial district. Established by renowned commodity trader Andy Daniels in 1995, Daniels Trading is built on a culture of trust committed to the firm’s mission of Independence, Objectivity and Reliability.

Risk Disclosure

THIS MATERIAL IS CONVEYED AS A SOLICITATION FOR ENTERING INTO A DERIVATIVES TRANSACTION.

THIS MATERIAL HAS BEEN PREPARED BY A DANIELS TRADING BROKER WHO PROVIDES RESEARCH MARKET COMMENTARY AND TRADE RECOMMENDATIONS AS PART OF HIS OR HER SOLICITATION FOR ACCOUNTS AND SOLICITATION FOR TRADES; HOWEVER, DANIELS TRADING DOES NOT MAINTAIN A RESEARCH DEPARTMENT AS DEFINED IN CFTC RULE 1.71. DANIELS TRADING, ITS PRINCIPALS, BROKERS AND EMPLOYEES MAY TRADE IN DERIVATIVES FOR THEIR OWN ACCOUNTS OR FOR THE ACCOUNTS OF OTHERS. DUE TO VARIOUS FACTORS (SUCH AS RISK TOLERANCE, MARGIN REQUIREMENTS, TRADING OBJECTIVES, SHORT TERM VS. LONG TERM STRATEGIES, TECHNICAL VS. FUNDAMENTAL MARKET ANALYSIS, AND OTHER FACTORS) SUCH TRADING MAY RESULT IN THE INITIATION OR LIQUIDATION OF POSITIONS THAT ARE DIFFERENT FROM OR CONTRARY TO THE OPINIONS AND RECOMMENDATIONS CONTAINED THEREIN.

PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE PERFORMANCE. THE RISK OF LOSS IN TRADING FUTURES CONTRACTS OR COMMODITY OPTIONS CAN BE SUBSTANTIAL, AND THEREFORE INVESTORS SHOULD UNDERSTAND THE RISKS INVOLVED IN TAKING LEVERAGED POSITIONS AND MUST ASSUME RESPONSIBILITY FOR THE RISKS ASSOCIATED WITH SUCH INVESTMENTS AND FOR THEIR RESULTS.

TRADE RECOMMENDATIONS AND PROFIT/LOSS CALCULATIONS MAY NOT INCLUDE COMMISSIONS AND FEES. PLEASE CONSULT YOUR BROKER FOR DETAILS BASED ON YOUR TRADING ARRANGEMENT AND COMMISSION SETUP.

YOU SHOULD CAREFULLY CONSIDER WHETHER SUCH TRADING IS SUITABLE FOR YOU IN LIGHT OF YOUR CIRCUMSTANCES AND FINANCIAL RESOURCES. YOU SHOULD READ THE "RISK DISCLOSURE" WEBPAGE ACCESSED AT WWW.DANIELSTRADING.COM AT THE BOTTOM OF THE HOMEPAGE. DANIELS TRADING IS NOT AFFILIATED WITH NOR DOES IT ENDORSE ANY TRADING SYSTEM, NEWSLETTER OR OTHER SIMILAR SERVICE. DANIELS TRADING DOES NOT GUARANTEE OR VERIFY ANY PERFORMANCE CLAIMS MADE BY SUCH SYSTEMS OR SERVICE.

GLOBAL ASSET ADVISORS, LLC (“GAA”) (DBA: DANIELS TRADING, TOP THIRD AG MARKETING AND FUTURES ONLINE) IS AN INTRODUCING BROKER TO GAIN CAPITAL GROUP, LLC (GCG) A FUTURES COMMISSION MERCHANT AND RETAIL FOREIGN EXCHANGE DEALER. GAA AND GCG ARE WHOLLY OWNED SUBSIDIARIES OF STONEX GROUP INC. (NASDAQ:SNEX) THE ULTIMATE PARENT COMPANY.

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Risk Disclosure

THIS MATERIAL IS CONVEYED AS A SOLICITATION FOR ENTERING INTO A DERIVATIVES TRANSACTION.

THIS MATERIAL HAS BEEN PREPARED BY A DANIELS TRADING BROKER WHO PROVIDES RESEARCH MARKET COMMENTARY AND TRADE RECOMMENDATIONS AS PART OF HIS OR HER SOLICITATION FOR ACCOUNTS AND SOLICITATION FOR TRADES; HOWEVER, DANIELS TRADING DOES NOT MAINTAIN A RESEARCH DEPARTMENT AS DEFINED IN CFTC RULE 1.71. DANIELS TRADING, ITS PRINCIPALS, BROKERS AND EMPLOYEES MAY TRADE IN DERIVATIVES FOR THEIR OWN ACCOUNTS OR FOR THE ACCOUNTS OF OTHERS. DUE TO VARIOUS FACTORS (SUCH AS RISK TOLERANCE, MARGIN REQUIREMENTS, TRADING OBJECTIVES, SHORT TERM VS. LONG TERM STRATEGIES, TECHNICAL VS. FUNDAMENTAL MARKET ANALYSIS, AND OTHER FACTORS) SUCH TRADING MAY RESULT IN THE INITIATION OR LIQUIDATION OF POSITIONS THAT ARE DIFFERENT FROM OR CONTRARY TO THE OPINIONS AND RECOMMENDATIONS CONTAINED THEREIN.

PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE PERFORMANCE. THE RISK OF LOSS IN TRADING FUTURES CONTRACTS OR COMMODITY OPTIONS CAN BE SUBSTANTIAL, AND THEREFORE INVESTORS SHOULD UNDERSTAND THE RISKS INVOLVED IN TAKING LEVERAGED POSITIONS AND MUST ASSUME RESPONSIBILITY FOR THE RISKS ASSOCIATED WITH SUCH INVESTMENTS AND FOR THEIR RESULTS.

TRADE RECOMMENDATIONS AND PROFIT/LOSS CALCULATIONS MAY NOT INCLUDE COMMISSIONS AND FEES. PLEASE CONSULT YOUR BROKER FOR DETAILS BASED ON YOUR TRADING ARRANGEMENT AND COMMISSION SETUP.

YOU SHOULD CAREFULLY CONSIDER WHETHER SUCH TRADING IS SUITABLE FOR YOU IN LIGHT OF YOUR CIRCUMSTANCES AND FINANCIAL RESOURCES. YOU SHOULD READ THE "RISK DISCLOSURE" WEBPAGE ACCESSED AT WWW.DANIELSTRADING.COM AT THE BOTTOM OF THE HOMEPAGE. DANIELS TRADING IS NOT AFFILIATED WITH NOR DOES IT ENDORSE ANY TRADING SYSTEM, NEWSLETTER OR OTHER SIMILAR SERVICE. DANIELS TRADING DOES NOT GUARANTEE OR VERIFY ANY PERFORMANCE CLAIMS MADE BY SUCH SYSTEMS OR SERVICE.

GLOBAL ASSET ADVISORS, LLC (“GAA”) (DBA: DANIELS TRADING, TOP THIRD AG MARKETING AND FUTURES ONLINE) IS AN INTRODUCING BROKER TO GAIN CAPITAL GROUP, LLC (GCG) A FUTURES COMMISSION MERCHANT AND RETAIL FOREIGN EXCHANGE DEALER. GAA AND GCG ARE WHOLLY OWNED SUBSIDIARIES OF STONEX GROUP INC. (NASDAQ:SNEX) THE ULTIMATE PARENT COMPANY.

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