We have discussed purchasing Calls and Puts so let's focus
on selling Calls and Puts. Remember I said if you purchase
the option, you, the owner, have the right to buy the underlying
security.
If you sell the option, you, the seller, have the obligation
to buy the underlying security. We'll continue to use Dell
as the example.
I have decided that rather than buy a Call (hoping Dell
will go up), I want to sell a Call, thinking now that Dell
may go down. When you sell something you get paid for it.
Therefore, if I sell a Dell Call Option, my account will
be credited with the premium from the sale. Assume Dell is
$100 and the January $100 Calls are at $10. If I sell that
particular Call I'll get $1000 (10X100 - per contract=1000)
placed into my account. If Dell drops to $80 by the next
day, this $10 Call will have decreased to $3. (Remember these
are rough examples just
to give you an idea).
This means that (on paper) I have made $700. I can either
buy the Dell call back for $300 (giving me $700 profit) or
I can hold it thinking Dell will be under $100 by expiration,
which means I will have the whole $1000 profit.
On the other hand, if Dell rises instead
to perhaps $105 in the next few days, I am losing money
because I received
$10 for the Call that may have risen to $14. I also stand
a chance of being what is technically known as "called
out." This means if you purchased the Call that I sold
for $100 and Dell goes to $105, you, the buyer of the Call,
have the right (not the obligation) to sell me your Call
for $105 and I, the seller of the Call, have the obligation
to buy it from you at $105, hence the term "called out".
If I sell the put option, I am obligated to buy your stock
from you at the sale price. If I sell the put I want the
stock to go up (not down as in the call example). Example:
You have 100 shares of Dell. You decide to buy a January
95 put contract for $5 in the event Dell goes down as protection.
I sold the put to you and received the $5, which goes into
my account. If Dell goes down to $80 as in our call example,
you have the right to "put your stock to me" at
$95. I would be obligated to buy it from you at that price,
which means I would lose $15 (95-80=15). Although I would
actually lose only $10 because I have received $5 in my
account.
Don't worry if you don't get it right away. Although it
really is not that difficult, it is a new concept for many
and I don't expect that you will pick up immediately.
In summary, you have read about two basic strategies using
options. The two are the purchase of calls and puts (for
a debit) and the sale of calls and puts (for a credit). These
are the absolute basics and this is all some option investors
trade in. However, there are almost as many option strategies
as there are stocks. The key is to know that they are available
and if interested, learn how to use them in your investments.
Previous Options Articles:
Options Start
Options Article 1
Options Article 2
Options Article 3
Options Article 4
Options Article 5
Options Article 6
Jenyce Johnson
Options Strategist, Trader and Coach
Not a licensed professional
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