All you want to know but never asked about the stocks and options markets.

jueves, 4 de septiembre de 2014

Strategies with options: Long Call, buying a call option

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Buyers of a Call option seek to benefit from the price increases of the underlying asset or protect short positions againts a possible price increase. They have a bullish view of the market and expect that price volatility to increase.

The risk of this strategy is limited to the premium price and profit potential is unlimited at maturity in a rising market.

The breakeven point in this trade, ie the point from which begins the potential for profit, is the strike price + the price of the premium. Furthermore, we note that its delta increases to +1 as the underlying asset prices rise. 

The more bullish market expectations are, the Call option must be purchased in the deepest Out The Money possible position, ie the higher strike price must be for the buyer of the call option.

The following example explains how the long call strategy work:

Example of a Long Call

After an extensive analysis, an investor consider that the price of XYZ company stock can go up in the coming months. Currently, the price of XYZ stock is $40.Therefore, the investor buy a call option on XYZ with a strike price of $40 and a premium of $2.00 USD/share. 

At maturity, the graph of profit / loss on the long call is:

According to this chart, when the market price is higher than $45, the trade produce earnings and the profit increase and is unlimited if the market price rises. At $45, the Call options is break even, while between $40 and $45, its loss will decrease as the market price increase. Below $40, the investor loss is limited to the price paid for the premium, ie $2.00 USD/share.

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