Selling Call Options

Selling Call Options

The value of a call option increases when the price of a stock rises. They are the most common sort of option, and they allow you to lock in a price to purchase a certain stock by a specific date. Call options are intriguing because they may swiftly appreciate if the stock price climbs somewhat. As a result, they are popular with traders looking to make a significant profit.

Call option sellers, also known as writers, sell call options with the expectation that they will expire worthless. They make money by keeping the premiums (price) they are paid. If the option buyer profitably executes their option when the underlying security price rises over the option strike price, their profit will be reduced, and they may even lose money.

What is a Call Option?

A call option is a contract that grants the buyer the right to acquire the underlying asset at a fixed price before the expiration date. The underlying actual asset for a call option is a bond, stock, or other type of securities.

A few words related to the choice are discussed below:

Strike Price - The previously agreed-upon fee.

Exercise Date - The deadline for exercising the right.

Premium - The price for exercising the right.

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Table of Content

  1. What is a Call Option?
  2. Selling Call Options Example 
  3. Types of Selling Call Options
  4. What is the Reason for Selling a Call Option? 
  5. Selling Option Strategy

Selling Call Options Example 

Consider the stock ABC now trading at 1,000 per share. You could sell an eight-month call on the stock with a 1,000 strike price of 300. One contract would provide you with 30,000 (300*1 contract*100 shares).

The buyer's payout would be the opposite:

  • The option will expire worthless at each price below the strike price of 1,000, and the call seller will pocket the 30,000 cash premium.
  • Between 1,000 and 1,200, the call seller retains part but not all of the premium.
  • Above 1,200 for a share, the call seller would begin to lose money over the 30,000 premium received.

Selling calls offers the advantage of earning an upfront cash premium and not having to put money down right away. You then wait till the stock is ready to expire. You will earn whether the stock falls, remains flat, or rises slightly. However, unlike the call buyer, you would not be able to treble your money. The premium is the highest you will earn as a call seller.

Types of Selling Call Options

While selling call option techniques vary by investor, there are two major approaches for an investor to sell call options:

Covered Call: The seller owns the underlying asset of the call option in this selling call strategy. Because the seller already acquired the asset at a lower price than the strike price, this selling call strategy is considered low risk. As a result, he is "protected" from loss and can collect the profit as additional income.

Naked Call: In contrast to a covered call, the seller of a naked call does not hold the underlying asset of the call options. As a result, because the seller is not shielded from possible losses by owning the asset, this selling call strategy is regarded as fairly high-risk.

What is the Reason for Selling a Call Option? 

For every call purchased, a call is sold. So, what are the advantages of selling call options? In other words, the payout structure for buying a call is the inverse. Call sellers believe the stock will remain flat or decrease, and they want to receive the premium without taking any risk.

Selling Option Strategy

The stock market is getting increasingly difficult, necessitating traders' understanding of options selling tactics, which are classed as bullish, neutral, intraday, and bearish. For efficient trading, familiarity with these approaches and their application is required.

Bullish Option Trading Strategies

The following techniques are classified as bullish options trading strategies

  1. Bull Call Spread

    The Bull Call Spread is a vertical options trading strategy where a trader buys an At-the-Money (ATM) call option and sells an Out-of-the-Money (OTM) call option simultaneously. Profits are tied to the underlying stock's cost, making it ideal for investors predicting no stock surge.

  2. Bull Put Spread

    The Bull Put Spread involves selling a put option while buying another put option with a lower strike, indicating a bullish outlook on the underlying asset. Similar to the Bull Call Spread, it involves purchasing an out-of-the-money put and selling an at-the-money put option.

  3. Bull Call Ratio

    The Bull Call Ratio Backspread is a complex strategy entailing the purchase of multiple call options at a lower strike and selling a greater number of call options at a higher strike. This strategy is designed for a bullish market outlook while mitigating downside risks, potentially yielding unlimited profits if the market rises.

  4. Synthetic Call

    The Synthetic Call strategy offers unlimited profit potential with limited risks. Traders execute this strategy by purchasing put options on a stock they anticipate will rise. This approach acts as an insurance policy against significant declines in the stock price, providing a way to benefit from potential stock price increases while controlling risk.

Bearish Option Trading Strategies

The strategies that fall under bearish options trading are as follows: 

  1. Bear Call Spread

    Bear Call Spread involves selling a call option at a lower strike price and simultaneously buying a call option at a higher strike price. It capitalises on a bearish market outlook while minimising potential losses, generating profits when stock prices fall.

  2. Bear Put Spread

    Bear Put Spread mirrors the bull call spread and is employed when anticipating a significant market downturn. It includes purchasing an in-the-money put option and selling an out-of-the-money put option.

  3. Strip

    The strip strategy entails buying two lots of at-the-money call options. It yields profits when the underlying stock experiences notable upward or downward movements, generally profiting from cost decreases.

  4. Synthetic Put

    Synthetic Put, also known as synthetic long put, is utilised in bearish option trading when there's concern about imminent strength in a particular stock. This tactic allows investors to profit from a decline in the underlying stock price, serving as a hedge for a bearish side while considering the stock's potential for near-term strength.

Neutral Options Trading Strategy

  1. Long Straddles & Short Straddles

    Straddles are straightforward market strategies that entail purchasing ATM call and put options with the same expiry, strike, and underlying. Long straddles include purchasing both options on the same underlying asset at the same strike price and expiration date, forecasting considerable price movement but not knowing the direction. In contrast, short straddles entail selling both options at the same strike price and expiration date, assuming consistent price movement. If the underlying asset's price remains between the strike prices of the call and pull options, the short straddle profits from the premiums received.

  2. Long Strangles & Short Strangles

    A buy or option strangle is a neutral options trading technique in which you buy OTM put and call options based on the expiration date and asset. A long strangle includes buying both options with the expectation of large price movement but an undetermined direction. Profits are generated when the underlying asset price advances in either direction and covers the expenses of premium options. A short strangle sells both options and gains if the underlying asset price remains between strike prices, generating returns from premiums received.

Understanding the workings of selling call options is critical for profitable options traders. It includes methods such as covered and naked calls that take advantage of changing market situations through bullish, bearish, and neutral approaches. By understanding these approaches, investors may better go through the complexity of the stock market app, maximising the potential of call option selling for optimal trading outcomes.

FAQs on Selling Call Option

The buyer may also sell the options contract to another option buyer at any time before the expiration date at the contract's current market price. 

Buying a call option rather than owning the stock results in much higher gains if the stock price increases dramatically. To generate a net profit on the option, the stock must rise above the strike price by enough to offset the premium given to the call seller.

Selling a call is bearish since the option seller benefits if the shares do not rise.

You can. You may trade and sell options at any time, even if you don't hold them.

If you do not execute an out-of-the-money stock option before it expires, it has no value. An in-the-money stock option is automatically executed when it expires.