Put Backspread Explained

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Contents

Chapter 7 Bearish Option Strategies

Bearish Option Strategies

Bearish Option Trading strategy is best used when an options trader expects the underlying assets to fall. It is very important to determine how much the underlying price will move lower and the timeframe in which the rally will occur in order to select the best option strategy. The simplest way to make profit from falling prices using options is to buy put options. Following are the most popular bearish strategies that can be used in different scenarios.

Bearish Options Trading strategies for Falling Markets

Long Put Options Trading

When should you initiate a Long Put Options Trade?

A Long Put strategy is best used when you expect the underlying asset to fall significantly in a relatively short period of time. It would still benefit if you expect the underlying asset to fall gradually. However, one should be aware of the time decay factor, because the time value of put will reduce over a period of time as you reach near expiry.

Why should you use Long Put?

This is a good strategy to use because the downside risk is limited only up to the premium/cost of the put you pay, no matter how much the underlying asset rises. It also gives you the flexibility to select the risk to reward ratio by choosing the strike price of the options contract you buy. In addition, Long Put can also be used as a hedging strategy if you want to protect an asset owned by you from a possible reduction in price.

Strategy Buy/Long Put Option
Market Outlook Extremely Bearish
Breakeven at expiry Strike price – Premium paid
Risk Limited to premium paid
Reward Unlimited
Margin required No

Let’s try to understand with an example:

Current Nifty Price Rs.8200
Strike price Rs.8200
Premium Paid (per share) Rs.60
BEP (Strike Price – Premium paid) Rs.8140
Lot size (in units) 75

Suppose Nifty is trading at Rs.8200. A put option contract with a strike price of Rs 8200 is trading at Rs.60. If you expect that the price of Nifty will fall significantly in the coming weeks, and you paid Rs.4,500 (75*60) to purchase a single put option covering 75 shares.

As per expectation, if Nifty falls to Rs.8100 on options expiration date, then you can sell immediately in the open market for Rs 100 per share. As each option contract covers 75 shares, the total amount you will receive is Rs 7,500 (100*75). Since, you had paid Rs.4,500 (60*75) to purchase the put option, your net profit for the entire trade is therefore Rs.3,000. For the ease of understanding, we did not take into account commission

How to manage risk?

A Long Put is a limited risk and unlimited reward strategy. So carrying overnight position is advisable but one can keep stop loss to restrict losses due to opposite movement in the underlying assets and also time value of money can play spoil sports if underlying assets doesn’t move at all.

Conclusion:

A Long Put is a good strategy to use when you expect the security to fall significantly and quickly. It also limits the downside risk to the premium paid, whereas the potential return is unlimited if Nifty moves lower significantly. It is perfectly suitable for traders who don’t have a huge capital to invest but could potentially make much bigger returns than investing the same amount directly in the underlying security.

Short Call Strategy Explained

Short Call Strategy:

What is Short Call strategy?

A Short Call means selling of a call option where you are obliged to buy the underlying asset at a fixed price in the future. This strategy has limited profit potential if the stock trades below the strike price sold and it is exposed to higher risk if the stock goes up above the strike price sold.

When to initiate a Short Call?

A Short Call is best used when you expect the underlying asset to fall moderately. It would still benefit if the underlying asset remains at the same level, because the time decay factor will always be in your favour as the time value of Call option will reduce over a period of time as you reach near to expiry. This is a good strategy to use because it gives you upfront credit, which will help you to somewhat offset the margin. But by initiating this position you are exposed to potentially unlimited losses if underlying assets goes dramatically high in price.

How to construct a Short Call?

A Short Call can be created by selling 1 ITM/ATM/OTM call of the same underlying asset with the same expiry. Strike price can be customized as per the convenience of the trader.

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Strategy Short Call Option
Market Outlook Neutral to Bearish
Motive Earn income from selling premium
Breakeven at expiry Strike price + Premium received
Risk Unlimited
Reward Limited to premium received
Margin required Yes
Probability 66.67%

Let’s try to understand with an Example:

NIFTY Current market Price 9600
Sell ATM Call (Strike Price) 9600
Premium Received 110
BEP (Rs.) 9710
Lot Size 75

Suppose Nifty is trading at Rs.9600. A Call option contract with a strike price of 9600 is trading at Rs.110. If you expect that the price of Nifty will fall marginally in the coming weeks, then you can sell 9600 strike and receive upfront premium of Rs.8,250 (110*75). This transaction will result in net credit because you will receive money in your broking account for writing the Call option. This will be the maximum amount that you will gain if the option expires worthless.

So, as per expectation, if Nifty falls or remains at 9600 by expiration, therefore the option will expire worthless. You will not have any further liability and amount of Rs.8,250 (110*75) will be your profit. The probability of making money is 66.67% as you can profit in two scenarios: 1) when price of underlying asset falls. 2) When price stays at same level.

Loss will only occur in one scenario i.e. when the underlying asset moves above the strike price sold.

Following is the payoff schedule assuming different scenarios of expiry. For the ease of understanding, we did not take into account commission charges and Margin.

On Expiry Nifty closes at Net Payoff from Sell Buy (Rs.)
9300 110
9400 110
9500 110
9600 110
9700 10
9710 0
9800 -90
9900 -190
10000 -290
10100 -390
10200 -490

Payoff Diagram:

Impact of Options Greeks:

Delta: Short Call will have a negative Delta, which indicates any rise in price will have a negative impact on profitability.

Vega: Short Call has a negative Vega. Therefore, one should initiate Short Call when the volatility is high and expects it to decline.

Theta: Short Call will benefit from Theta if it moves steadily and expires at or below strike sold.

Gamma: This strategy will have a short Gamma position, which indicates any significant upside movement, will lead to unlimited loss.

How to manage Risk?

A Short Call is exposed to unlimited risk; it is advisable not to carry overnight positions. Also, one should always strictly adhere to Stop Loss in order to restrict losses.

Analysis:

A Short Call strategy can help in generating regular income in a falling or sideways market but it does carry significant risk and it is not suitable for beginner traders. It’s also not a good strategy to use if you expect underlying assets to fall quickly in a short period of time; instead one should try Long Put strategy.

Put Ratio Spread Explained

What is Put Ratio Spread?

The Put Ratio Spread is a premium neutral strategy that involves buying options at higher strike and selling more options at lower strike of the same underlying stock.

When to initiate the Put Ratio Spread

The Put Ratio Spread is used when an option trader thinks that the underlying asset will fall moderately in the near term only up to the sold strike. This strategy is basically used to reduce the upfront costs of premium and in some cases upfront credit can also be received.

How to construct the Put Ratio Spread?

  • Buy 1 ITM/ATM Put
  • Sell 2 OTM Put

The Put Ratio Spread is implemented by buying one In-the-Money (ITM) or At-the-Money (ATM) put option and simultaneously selling two Out-the-Money (OTM) put options of the same underlying asset with the same expiry. Strike price can be customized as per the convenience of the trader.

Strategy Put Ratio Spread
Market Outlook Moderately bearish with less volatility
Upper Breakeven Long put strike (-/+) Net premium paid or received
Lower Breakeven Short put strike – Difference between Long and Short strikes (-/+) premium received or paid
Risk Unlimited
Reward Limited (when underlying price = strike price of short put)
Margin required Yes

Let’s try to understand with an Example:

NIFTY Current market Price Rs 9300
Buy ATM Put (Strike Price) Rs 9300
Premium Paid (per share) Rs 140
Sell OTM Put (Strike Price) Rs 9200
Premium Received Rs 70
Net Premium Paid/Received Rs 0
Upper BEP 9300
Lower BEP 9100
Lot Size 75

Suppose Nifty is trading at Rs.9300. If Mr. A believes that price will fall to 9200 on expiry, then he can initiate Put Ratio Spread by buying one lot of 9300 put strike price at Rs.140 and simultaneously selling two lot of 9200 put strike price at Rs 70. The net premium paid/received to initiate this trade is zero. Maximum profit from the above example would be Rs.7500 (100*75). It would only occur when the underlying asset expires at 9200. In this case, short put options strike will expire worthless and 9300 strike will have some intrinsic value in it. However, maximum loss would be unlimited if it breaches breakeven point on downside.

For the ease of understanding, we did not take in to account commission charges. Following is the payoff schedule assuming different scenarios of expiry.

The Payoff Schedule:

On Expiry NIFTY closes at Net Payoff from 9300 Put Bought (Rs) Net Payoff from 9200 Put Sold (Rs) (2Lots) Net Payoff (Rs)
8700 460 860 -400
8800 360 660 -300
8900 260 460 -200
9000 160 -260 -100
9100 60 -60 0
9150 10 40 50
9200 -40 140 100
9250 -90 140 50
9300 -140 140 0
9350 -140 140 0
9400 -140 140 0
9450 -140 140 0
9500 -140 140 0

The Payoff Graph:

Impact of Options Greeks:

Delta: If the net premium is received from the Put Ratio Spread, then the Delta would be positive, which means any upside movement will result into marginal profit and any major downside movement will result into huge loss.

If the net premium is paid, then the Delta would be negative, which means any upside movement will result into premium loss, whereas a big downside movement is required to incur huge loss.

Vega: The Put Ratio Spread has a negative Vega. An increase in implied volatility will have a negative impact.

Theta: With the passage of time, Theta will have a positive impact on the strategy because option premium will erode as the expiration dates draws nearer.

Gamma: The Put Ratio Spread has short Gamma position, which means any major downside movement will affect the profitability of the strategy.

How to manage Risk?

The Put Ratio Spread is exposed to unlimited risk if underlying asset breaks lower breakeven hence one should follow strict stop loss to limit losses.

Analysis of Put Ratio Spread:

The Put Ratio Spread is best to use when investor is moderately bearish because investor will make maximum profit only when stock price expires at lower (sold) strike. Although your profits will be none to limited if price rises higher.

Bear Call Option Trading Strategy

What is a Bear Call Spread Option strategy?

A Bear Call Spread is a bearish option strategy. It is also called as a Credit Call Spread because it creates net upfront credit at the time of initiation. It involves two call options with different strike prices but same expiration date. A bear call spread is initiated with anticipation of decline in the underlying assets, similar to bear put spread.

When to initiate a Bear Call Spread Option strategy?

A Bear Call Spread Option strategy is used when the option trader expects that the underlying assets will fall moderately or hold steady in the near term. It consists of two call options – short and buy call. Short call’s main purpose is to generate income, whereas higher buy call is bought to limit the upside risk.

How to construct the Bear Call Spread?

Bear Call Spread can be implemented by selling ATM call option and simultaneously buying OTM call option of the same underlying assets with same expiry. Strike price can be customized as per the convenience of the trader.

Probability of making money

A Bear Call Spread has a higher probability of making money. The probability of making money is 67% because Bear Call Spread will be profitable even if the underlying assets holds steady or falls. While, Bear Put Spread has probability of only 33% because it will be profitable only when the underlying assets fall.

Strategy Sell 1 ATM call and Buy 1 OTM call
Market Outlook Neutral to Bearish
Motive Earn income with limited risk
Breakeven at expiry Strike Price of short Call + Net Premium received
Risk Difference between two strikes – premium received
Reward Limited to premium received
Margin required Yes

Let’s try to understand with an example:

Nifty Current spot price (Rs) 9300
Sell 1 ATM call of strike price (Rs) 9300
Premium received (Rs) 105
Buy 1 OTM call of strike price (Rs) 9400
Premium paid (Rs) 55
Break Even point (BEP) 9350
Lot Size 75
Net Premium Received (Rs) 50

Suppose Nifty is trading at Rs.9300. If Mr. A believes that price will fall below 9300 or holds steady on or before the expiry, so he enters Bear Call Spread by selling 9300 call strike price at Rs.105 and simultaneously buying 9400 call strike price at Rs.55. The net premium received to initiate this trade is Rs.50. Maximum profit from the above example would be Rs.3750 (50*75). It would only occur when the underlying assets expires at or below 9300. In this case both long and short call options expire worthless and you can keep the net upfront credit received. Maximum loss would also be limited if it breaches breakeven point on upside. However, loss would also be limited up to Rs.3750(50*75).

For the ease of understanding, we did not take in to account commission charges. Following is the payoff chart and payoff schedule assuming different scenarios of expiry.

The Payoff Schedule:

On Expiry Nifty closes at Net Payoff from Call Sold 9300 (Rs) Net Payoff from Call Bought 9400 (Rs) Net Payoff (Rs)
8900 105 -55 50
9000 105 -55 50
9100 105 -55 50
9200 105 -55 50
9300 105 -55 50
9350 55 -55 0
9400 5 -55 -50
9500 -95 45 -50
9600 -195 145 -50
9700 -295 245 -50
9800 -395 345 -50

Bear Call Spread’s Payoff Chart:

Impact of Options Greeks:

Delta: The net Delta of Bear Call Spread would be negative, which indicates any upside movement would result in to loss. The ATM strike sold has higher Delta as compared to OTM strike bought.

Vega: Bear Call Spread has a negative Vega. Therefore, one should initiate this strategy when the volatility is high and is expected to fall.

Theta: The net Theta of Bear Call Spread will be positive. Time decay will benefit this strategy.

Gamma: This strategy will have a short Gamma position, so any upside movement in the underline asset will have a negative impact on the strategy.

How to manage Risk?

A Bear Call is exposed to limited risk; hence carrying overnight position is advisable.

Analysis of Bear Call Options strategy:

A Bear Call Spread strategy is limited-risk, limited-reward strategy. This strategy is best to use when an investor has neutral to bearish view on the underlying assets. The key benefit of this strategy is the probability of making money is higher.

What Is A Bear Put Spread Options Trading Strategy?

A Bear Put Spread strategy involves two put options with different strike prices but the same expiration date. Bear Put Spread is also considered as a cheaper alternative to long put because it involves selling of the put option to offset some of the cost of buying puts.

When To Initiate A Bear Put Spread Options Trading?

A Bear Put Spread strategy is used when the option trader thinks that the underlying assets will fall moderately in the near term. This strategy is basically used to reduce the upfront costs of premium, so that less investment of premium is required and it can also reduce the affect of time decay. Even beginners can apply this strategy when they expect security to fall moderately in near the term.

How To Construct The Bear Put Spread?

  • Buy 1 ITM/ATM Put
  • Sell 1 OTM Put

Bear Put Spread is implemented by buying In-the-Money or At-the-Money put option and simultaneously selling Out-The-Money put option of the same underlying security with the same expiry.

Strategy Buy 1 ITM/ATM put and Sell 1 OTM put
Market Outlook Moderately Bearish
Breakeven at expiry Strike price of buy put – Net Premium Paid
Risk Limited to Net premium paid
Reward Limited
Margin required Yes

Let’s try to understand Bear Put Spread Options Trading with an example:

Nifty current market price Rs.8100
Buy ATM Put (Strike Price) Rs.8100
Premium Paid (per share) Rs.60
Sell OTM Put (Strike Price) Rs.7900
Premium Received Rs.20
Net Premium Paid Rs.40
Break Even Point (BEP) Rs.8060
Lot Size (in units) 75

Suppose Nifty is trading at Rs.8100. If you believe that price will fall to Rs.7900 on or before the expiry, then you can buy At-the-Money put option contract with a strike price of Rs.8100, which is trading at Rs.60 and simultaneously sell Out-the-Money put option contract with a strike price of Rs.7900, which is trading at Rs.20. In this case, the contract covers 75 shares. So, you paid Rs.60 per share to purchase single put and simultaneously received Rs.20 by selling Rs.7900 put option. So, the overall net premium paid by you would be Rs 40.

So, as expected, if Nifty falls to Rs.7900 on or before option expiration date, then you can square off your position in the open market for Rs 160 by exiting from both legs of the trade. As each option contract covers 75 shares, the total amount you will receive is Rs 15,000 (200*75). Since, you had paid Rs.3,000 (40*75) to purchase the put option, your net profit for the entire trade is, therefore Rs.12,000 (15000-3000). For the ease of understanding, we did not take in to account commission charges.

Following is the payoff schedule assuming different scenarios of expiry.

The Payoff Schedule:

On Expiry NIFTY closes at Net Payoff from Put Buy (Rs) Net Payoff from Put Sold (Rs) Net Payoff (Rs)
7500 540 -380 160
7600 440 -280 160
7700 340 -180 160
7800 240 -80 160
7900 140 20 160
8000 40 20 60
8100 -60 20 -40
8200 -60 20 -40
8300 -60 20 -40
8400 -60 20 -40
8500 -60 20 -40
8600 -60 20 -40
8700 -60 20 -40

Bear Put Spread’s Payoff Chart:

The overall Delta of the bear put position will be negative, which indicates premiums will go up if the markets go down. The Gamma of the overall position would be positive. It is a long Vega strategy, which means if implied volatility increases; it will have a positive impact on the return, because of the high Vega of At-the-Money options. Theta of the position would be negative.

Analysis of Bear Put Spread strategy:

A Bear Put Spread strategy is best to use when an investor is moderately bearish because he or she will make the maximum profit only when the stock price falls to the lower (sold) strike. Also, your losses are limited if price increases unexpectedly higher.

Put Backspread Explained – Back Spread Options Strategy

What is Put Backspread?

The Put Backspread is reverse of Put Ratio Spread. It is a bearish strategy that involves selling options at higher strikes and buying higher number of options at lower strikes of the same underlying asset. It is unlimited profit and limited risk strategy.

When to initiate the Put Backspread

The Put Backspread is used when an option trader believes that the underlying asset will fall significantly in the near term.

How to construct the Put Backspread?

  • Sell 1 ITM/ATM Put
  • Buy 2 OTM Put

The Put Backspread is implemented by selling one In-the-Money (ITM) or At-the-Money (ATM) put option and buying two Out-the-Money (OTM) put options simultaneously of the same underlying asset with the same expiry. Strike price can be customized as per the convenience of the trader.

Options Trading: What It Is, How It Works & BEST Strategies

It’s important to know about all sorts of trading strategies. So let’s take a little time to talk about some options trading examples and how it all works.

Even though I don’t do options trading, that doesn’t mean you can’t or shouldn’t.

Why am I taking the time to do this? Because I understand that trading isn’t one size fits all.

I made my fortune trading penny stocks, and that’s what I teach my students. But I also think it’s important to learn all about the different trading strategies out there so you can decide for yourself what you want to pursue.

Becoming a self-sufficient trader is all about finding out what works for you and refining your methods over time.

For some traders, options have proven a successful strategy. Could it be a good fit for you? Read on to learn more — I’ll cover some fundamental basics, key terms, and strategies for options beginners.

Table of Contents

What Is Options Trading?

Options are a specific type of security called a derivative.

There are lots of examples of derivative investments. They’re a type of financial security that’s valued based on either a single or a group of underlying assets.

Some examples of these underlying assets include bonds, commodities, currencies, stocks, and market indexes.

Derivatives can be traded like stocks, either OTC (over the counter) or via an exchange. Their price can and will fluctuate based on the value of the underlying stock. That’s where the inherent risk comes in.

Option prices are derivatives of the stocks they represent.

Options Trading Rights and Obligations

With options, you get the right — but not the obligation — to purchase or sell a certain amount of stock (or other securities) at a pre-arranged price and on a specific date. That price is derived from the stock’s price.

Options are contracts, but they give you the rights to buy or sell — not an obligation. They’re different from regular stock plays and futures because you can decide not to go through with the contract.

Options Trading Examples: How Can You Succeed?

Before I answer that question, I gotta say this: I’m not an options trader and I’m in no way giving you trading or financial advice. All trading is risky. Never risk more than you can afford. Do your due diligence.

To succeed as an options trader, your education is vital. You need to know how it works and how trades play out.

Keep reading to learn options trading basics along with some examples to help you start to put it all together.

How Does Options Trading Work?

Think of how options trading works in terms of selling a car to a private buyer.

  • You meet the buyer who looks over the car and gives you a deposit to hold the vehicle.
  • You get to keep the deposit even if the buyer decides not to return with the full purchase price by the agreed-upon date.
  • The prospective buyer has bought the option to buy the car by whatever deadline you set.
  • If the buyer doesn’t, you can sell the car to someone else — maybe even for a higher price — and you already have the deposit in your pocket.

Options trading is far more complicated than that, but it can be easier to understand when you have an example outside of stock market options.

I really want to stress that you need to learn the basics of options trading before you execute any contracts.

Otherwise, you’ll lose money like thousands of other traders who jump into options trading without the right knowledge.

Options Trading Brokers

Just like with stocks, you need a broker to trade options. However, not all brokers offer options trading.

If you’re happy with your current broker, check with them first to see if they offer options trading. And if they do, find out what their requirements are.

If your broker doesn’t offer options trading, you’ll need to find one that does. Remember: don’t take this decision lightly. Be sure to do plenty of research on options brokers before settling on one.

While this post focuses on choosing a stockbroker, many of the tips are relevant for choosing an options trading broker too.

Types of Options

With options, you have … well, options. Let’s talk about some of the different types.

Long vs. Short Options

With stocks, you can go long or take a short position. With options, you can trade either call or put options. Here’s a brief synopsis of what they are and how they work…

Call Option

A call option is a potential future trade.

For example, say you want to purchase 1,000 shares of Stock X at $4.20 per share at some point in the future because you believe it’ll go up in price.

You can purchase a call option to make this purchase at any point within a finite period. You’re kind of calling dibs or locking in that price.

However, the person selling doesn’t necessarily just want you calling dibs without getting something in return.

As the buyer, you’ve got to put down a premium — that’s the price of the options contract.

The benefit is that if the stock goes up in value, you can still complete the purchase at the agreed-upon price during the contract period. The premium you pay acts as a down payment.

However, if the option’s expiration date passes and you don’t move forward, you don’t get the premium back.

Put Option

A put option is a contract where you as a contract holder have the right to sell the asset in question at any time within a predetermined, finite period.

Say you want to sell shares of a stock. You set your strike price — say it’s $5. With a put option, you can sell your shares for that price at any point before the expiration date.

The benefit of this method is that even if the stock value goes down dramatically, you can still get the agreed-upon price.

A put seller receives a premium or down payment in this case. A single put option represents a specific amount of the underlying asset in question. Frequently, it’s one put option to 100 shares of the underlying asset.

In other words, the “down payment” is 1/100th of the total purchase price.

Trading Call vs. Put Options

  • A call option is best when you believe the price of a stock will rise.
  • A put option is best when you believe the price of a stock will fall.

Benefits and Advantages of Trading Options

Some of my students have had excellent results with options trading. They’ve studied the market, recognized the potential pitfalls, and traded options with their own risk tolerance in mind.

Why do some successful traders love options trading? Here are some advantages.

Flexibility

Options can give you a ton of flexibility.

Yes, you have to plunk down that premium, but it affords you the flexibility to make the decision of whether to actually exercise the option later.

You don’t have to exercise the option if you choose not to. There’s no punishment. When the expiration date comes, the option becomes null and void.

Yes, this means that you lose the investment that you made for the option premium, but you won’t suffer any additional losses.

Also, since options are a type of derivative, you can use them to trade all sorts of financial securities like commodities and foreign currencies to name a few … It’s not just for stocks.

Limited Risk for Buyers

I’m all about cutting losses and limiting risk. Options can let you limit risk, which is a good thing.

Yes, you do have to put down that premium, and if you don’t exercise the option within a set period of time, you may forfeit that payment. So, in that way, there’s considerable risk depending on the number of shares you intend to buy or sell.

However, that risk can be minimal compared to the potential losses you might suffer if you made the trade without an options contract.

Speculation

Yep … If you think options sound a bit like prospecting, you’re right. There’s a certain level of speculation involved in options trading.

For instance, if you purchase a call option, you probably have a strong belief that its value will go up in time and that you’ll be able to buy in at a low price. Employing a call option versus simply buying the asset or stock allows you additional time.

But remember the car sale scenario. The buyer puts down a deposit against the agreed-upon price. That’s all well and good. But the seller holds the cards here. If the buyer doesn’t come back, the seller keeps the cash.

It works the same with options trading.

Hedging

While options buyers often speculate to a certain degree, one of the biggest appeals of options is that you can hedge your bets, so to speak. Hedging is a method of reducing risk.

I hate risk. Have I said that already? Let me say it again: I hate risk. And you should, too.

Like in the car sale analogy, an options premium creates a stopgap. It basically says, This is the most I’ll lose on this deal if it goes south.”

Basically, you’re guaranteeing that this would be the maximum amount that you’d lose if things don’t go your way. It’s almost like an insurance policy. Yes, you have to pay for insurance, but if something goes wrong, you’re covered.

Some will say that if you’re not sure of a stock investment, you haven’t done enough research and it’s too risky to even pursue.

But some traders think that hedging can be an intelligent approach … you never know what factors will play into a stock’s or asset’s value. Hedging strategies can be extremely valuable, especially when the stakes get high.

Options give you the ability to restrict the potential losses on a given investment, while optimistically trying to make the most of the potential gains. It can be really cost effective when you think of it in that way. You’re paying for peace of mind.

How to Read an Options Table

The first time you try to read an options table, you’ll likely feel overwhelmed. I know I did.

With its staggering series of columns, it can be confusing.

However, once you break it down, it’s really not as complex as it seems. Here’s a cheat sheet of some of the common columns you’ll see in a table and what they mean.

OpSym

This is short for Option Symbol. This column offers the basics: The stock symbol, the contract date of maturity, and the strike price. It also defines whether it is a call or a put option (specified with a C or a P).

Referred to in points, the bid price is the most up-to-date price offered to buy the option in question. So, if you were to enter a market order to sell the call or put, this would be the price commanded.

Also referred to in points, the ask price is the most up-to-date price offered to sell the option in question. So, if you were to enter a market order to buy the call or put, this would be the price commanded.

Extrinsic Ask

This shows the premium of time built into the option price. Since all options lose their time premium when the option expires, this value showcases the amount of time premium currently playing into the option’s price.

Implied Volatility Bid/Ask

Also referred to as the IV Bid/Ask, this column shows the potential level of future volatility. This is based on factors including the option’s current price and the amount of time until the option expires. This value can be determined by a model such as the Black-Scholes Model.

According to “The Economic Times,” the “Black-Scholes is a pricing model used to determine the fair price or theoretical value for a call or a put option based on six variables such as volatility, type of option, underlying stock price, time, strike price, and risk-free rate.”

Ultimately, with a higher IV Bid/Ask, there’s more time premium included in the option’s price.

Historical vs. Implied Volatility

Not sure about the difference between historical and implied volatility? Let’s take a little time out to talk about it.

  • Historical volatility is based on historical data –– like actual past price action.
  • Implied volatility looks at the past but is forward-thinking. It uses the past to predict what might happen with volatility in the future.

Volume

This column tells you how many contracts of a given option were traded during the last market session. Often, options with larger movement and volume will have a tight bid/ask spread, since the competition to buy and sell these options is higher.

Open Interest

This column tells you how many contracts of a given option have been opened, but have not yet been cashed in or sold.

Strike

This column tells you the strike price of the option in question. This is the price that the buyer has set to buy or sell the underlying security if he or she chooses to take the option.

Assessing Risks in Options Trading

In addition to the above columns in an options table, you’ll often see a series of columns with headings named after greek letters. One of the unique things about options is that they carry various values that can help you determine the level of risk.

I’m talking, of course, about the infamous “Greeks.”

If you’ve been researching options or looking at options tables, you’ve probably heard about the Greeks — and are likely confused by them. The Greeks include delta, gamma, theta, vega, and rho.

These measure a variety of factors that can affect price regarding a given options contract and are calculated using a theoretical model.

Sound complicated? Stick with me.

In this section, we’ll discuss what the Greek letters mean in options trading and how they can better help you understand an option’s risk and reward potential.

Delta

Delta is a Greek value that represents the “stock equivalent position” for an option. The delta for a call option can range from 0 to 100 (and for a put option, from 0 to -100 … yes, that’s negative 100).

In essence, the of-the-moment risk and reward with holding a call option with a delta of 100 is similar to holding the equivalent amount of stock shares.

Gamma

Gamma is a Greek value that tells you how many deltas the option will gain or lose if the underlying stock rises by one full point.

Theta

Theta is the Greek value that indicates how much value an option will lose with the passage of one day’s time based on what’s referred to as “time decay.” This factors in the expiration date of the option.

Vega is a Greek value that indicates the amount by which the price of the option would be affected, either positively or negatively, based on a one-point increase in implied volatility.

Rho is a Greek value which acts to measure an option’s sensitivity to a potential change in interest rate. So, for every rho, the percentage point in interest rates will increase the option value.

How to Make Money Trading Options

When it comes down to making money trading options, you rely on the same logic as trading stocks.

You want to commit to buying or selling prices that will put you in an advantageous position to collect profits. But “call” and “put” don’t tell the entire story…

Successful Options Trading Strategies Explained

There are a ton of different strategies for options trading. Here are some common ones.

Long Call – Options Trading

This is the most basic type of strategy for the call option. Basically, it begins with your belief that the underlying asset will rise in value over time.

You buy a call option with a strike price that you believe the asset will exceed in value over time.

The hard part? You’ve got to determine an expiration date. This is something of a gamble because you hope the value will rise before that date.

You risk losing potential profits by setting an expiration date too soon after the contract begins.

Compared to simply buying shares in full, you gain leverage here because there’s a chance that the value will go up quite dramatically, and then you can buy in for that sweet predetermined price.

However, if the value doesn’t go up by the time that the expiration date is up and you decide not to go through with the order, you won’t get that down payment back.

Long Put – Options Trading

This is the most basic type of strategy for the put option. It begins with you either believing or hedging on the fact that the underlying asset will lose value over time. You buy a put option with a strike price that you believe the asset will sink below over time.

Like with a long call, you have to agree to an expiration date. Once again, this is a gamble because you have to try to determine by what date the asset will go down in value.

Some traders believe that, in comparison to short selling a stock, a long put is easier. For one thing, you don’t have to find shares to borrow, which can prove tricky, especially if you’re into pennystocking.

However, unlike simply selling short, your losses are finite. Selling short carries unlimited profit — but also unlimited losses. So comparatively, the losses can be controlled here.

What I want to point out, though, is that options trading is a zero-sum game. In other words, it’s you against the buyer or seller.

Trading regular stocks opens up the field, kind of like in a horse race. Everyone is betting against one another, which means you have stronger data and a greater opportunity to profit.

Call Backspread

This is where things get a little bit more complicated. A call backspread, also referred to as a “reverse call ratio spread,” is a more bullish strategy.

Here, you sell a certain number of call options, then buy more call options of the same underlying asset with a higher strike price.

This is a little bit more aggressive of an approach for purchasing options. It’s most appropriate when you really think that the asset will experience huge growth in the near future.

The call backspread profits when the price goes up sharply and the profits are virtually limitless for the buyer.

Put Backspread

The put backspread is the yin to the call backspread yang. It’s also referred to as the “reverse put ratio spread.”

Basically, you sell a certain number of put options, then buy more put options of the same underlying asset, but with a lower strike price.

There are virtually limitless profits available with this strategy, but it also demands greater risk tolerance. The put backspread profits when the price goes down sharply, and the profits are virtually limitless for the buyer.

Protective Put

For buyers who are worried about their assets, the protective put, also referred to as a “put hedge,” is a method of hedging.

When you’re worried about a market downturn or crash, or a change in the value of an asset, you may invest in a protective put to protect from limitless losses.

Here, it’s like you have a previous purchase that you’re protecting with a proverbial insurance policy. This is what differentiates it from a long put — the fact that you’re already in the trade.

In this way, it’s almost like refinancing a house you already own versus buying a new one. But when it comes down to it, the risk is still similar to a long put.

Bear Split-Strike Combo

This is one of the most complicated strategies … and definitely the one that sounds most like a circus sideshow. Here’s how it works.

You have one long put with a lower strike price and one short call with a higher strike price. Yup, you have options in both directions with the same underlying asset and expiration date, but with different prices.

You could call this the ultimate in hedging because you’re putting a wager on whether the asset will go up or down. So if it goes up, you can profit from the call. And if it goes down, you can profit from the put.

Common Options Trading Mistakes

Choosing the wrong strategy. Like with trading, not all strategies are a perfect fit for all traders. It may take trial and error, but it’s important to stick with a strategy that matches your style.

Wrong expiration date. Picking the right expiration date for options contracts is hard … so ask yourself these things first:

  • What’s the market liquidity like?
  • How long do I think it will take for the price to move higher/lower?
  • Do I want to hold this contract through seasonal fluctuations like earnings season?

Going all in. It can be tempting to take a huge position since you only have to pay the premium … but resist the urge. Remember: you can still lose money. Never trade more than you can afford to lose!

Why Do You Need Expert Assistance?

You could learn things the hard way, or you could speed up your learning curve by seeking out assistance.

I won’t be your mentor for options trading. But if this is a strategy you’re interested in, do yourself a favor: find a program or mentor where you can learn all you can before risking your cash!

Trading Challenge

Like I said before, trading options isn’t my thing. But what I can teach you is how to trade penny stocks. That’s what I focus on with my Trading Challenge.

My goal as a teacher is to help my students forge long-term, sustainable careers as traders.

I focus on all sorts of strategies for trading low-priced stocks. I want you to be adaptable, diverse, and most of all intelligent in your trading.

Articles, daily alerts, webinars, and an extensive video collection are just a few of the many perks you’ll get as a student.

I’m here to help you become a smarter trader who knows how to cut losses and refine successful techniques to keep getting better. You game?

The Final Word on Options Trading

Options trading is appealing to many traders … and with good reason.

It can come with a lot of benefits, including flexibility, limited risk, and the ability to gain profits based on foresight gained through study and research.

However, options trading isn’t without its fair share of risk. It’s so important to become educated on any style of trading you want to pursue. Never just throw your money at the market!

What do you think? Do you trade options? What strategies do you like best?

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Tim Sykes is a penny stock trader and teacher who became a self-made millionaire by the age of 22 by trading $12,415 of bar mitzvah money. After becoming disenchanted with the hedge fund world, he established the Tim Sykes Trading Challenge to teach aspiring traders how to follow his trading strategies. He’s been featured in a variety of media outlets including CNN, Larry King, Steve Harvey, Forbes, Men’s Journal, and more. He’s also an active philanthropist and environmental activist, a co-founder of Karmagawa, and has donated millions of dollars to charity. Read More

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      Hey Everyone,

      As many of you already know I grew up in a middle class family and didn’t have many luxuries. But through trading I was able to change my circumstances –not just for me — but for my parents as well. I now want to help you and thousands of other people from all around the world achieve similar results!

      Which is why I’ve launched my Trading Challenge. I’m extremely determined to create a millionaire trader out of one my students and hopefully it will be you.

      So when you get a chance make sure you check it out.

      PS: Don’t forget to check out my free Penny Stock Guide, it will teach you everything you need to know about trading. :)

      Complicated stuff. Wearin a head sized Band Aid right now. Try and guess where.

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      Backtracking explained

      Backtracking is one of my favourite algorithms because of its simplicity and elegance; it doesn’t always have great performance, but the branch cutting part is really exciting and gives you the idea of progress in performance while you code.

      But let’s first start with a simple explanation. According to Wikipedia:

      Backtracking is a general algorithm for finding all (or some) solutions to some computational problems, that incrementally builds candidates to the solutions, and abandons each partial candidate (“backtracks”) as soon as it determines that the candidate cannot possibly be completed to a valid solution.

      Once you already have used backtracking, it’s a pretty straightforward definition, but I realise that when you read it for the first time is not that clear (or — at least — it wasn’t to me).

      A little example could help us. Imagine to have a maze and you want to find if it has an exit (for sake of precision, algorithms to get out of a maze using graphs are more efficient than backtracking). This is the maze:

      where we have labeled the junctions as 1, 2 and 3.

      If we want to check every possible path in the maze, we can have a look at the tree of paths, split for every junctions stop:

      Let’s see a pseudo code for traversing this maze and checking if there’s an exit:

      If we apply this pseudo code to the maze we saw above, we’ll see these calls:

      Please note that every time a line is indented, it means that there was a recursive call. So, when a no junctions/exit is found, the function returns a false value and goes back to the caller, that resumes to loop on the possible paths starting from the junction. If the loop arrives to the end, that means that from that junction on there’s no exit, and so it returns false .

      The idea is that we can build a solution step by step using recursion; if during the process we realise that is not going to be a valid solution, then we stop computing that solution and we return back to the step before ( backtrack). In the case of the maze, when we are in a dead-end we are forced to backtrack, but there are other cases in which we could realise that we’re heading to a non valid (or not good) solution before having reached it. And that’s exactly what we’re going to see now.

      Quite a while ago I’ve been gifted one of those puzzles based on shaped pieces ( à la tetris) that have to be framed in form of a square or a rectangle:

      After tweaking with it for a while I couldn’t come up with a solution, so I decided to write a program to solve the puzzle for me.

      I’ve chosen the Go language and the Gotk3 project (a binding to GTK3 libraries) to write a simple GUI application that -given a puzzle in input- uses backtracking to find all the possible solutions.

      The main idea of the algorithm is this: we start with an empty frame and then try to place the first piece; since the canvas is empty, it will for sure fit into it; we recursively try to place the second piece (not overlapping the first), and then the third and so on, until either it finds a piece that cannot be placed into the canvas, or there are no more pieces to place. In the first case, we have to go back from that branch of execution (we have to backtrack) because it makes no sense going on trying to place the remaining pieces if that one cannot be placed (there’s no valid solution without that piece); in case of no more pieces to place, that means we found a solution, so we can add it to the set of solutions and go on finding other ones.

      Let’s now consider the very nature of this puzzle: the pieces can be rotated and flipped, so for every piece we have to try all its possible rotations. Given that, here’s the solver function (a lot of details like data structures and other functions are omitted, but the sense should be clear):

      If you want to see the real implementation, head to the Github repository: https://github.com/andreaiacono/GoShapesPuzzle.

      Considering a 5×6 model, like this one:

      the execution time is not exciting: on my notebook it took 1h18m31s.

      Can we do better?

      Let’s think about what this algorithm does: it places all the pieces in every possible position, even where it makes no sense to do it. For example, this is one of the possible configurations:

      Of course those 1-cell and 2-cells empty spaces (circled in red in the above image) will never be filled because in this model we don’t have any piece small enough to fit into them, and thus the whole branch of computation will eventually fail (meaning that no solution will be found since not all the pieces will be placed on the grid). So, it would be nice to cut the branch as soon as we realise that there’s an empty space smaller than the smaller of the remaining pieces to place.

      This can be achieved adding this check:

      First we place the piece we are examining now into the grid, and then we compute the size of every empty area (using a floodfill like algorithm). At the end of the function, we just return if the minimum empty area is smaller than the smaller remaining piece. So if this function returns true that means that this branch of computation will never arrive to a solution, and hence we can cut it.

      What we’ve done is to add some extra computation (to find the minimum empty space size) in order to avoid following a branch that will never arrive to a solution; more in general, it depends on the problem we’re trying to solve if it makes sense to add the extra computation or not because it could be something that worsen the general performance of the algorithm.

      In our case this extra computation resulted in a total computation time cut from 1h18m31s to 6m19s: a 12.5x increment in performance!

      Can we do better?

      If we look at the main loop of the solver, we realise that the same configuration is computed multiple times. Let’s suppose that the solver starts placing the piece no. 1 in (0,0) and then the piece no.2 in (3,0); when the branch of piece no.1 as the first piece will be over, the solver will start placing piece no.2, and after trying other positions it will place it in (3,0); going on computing that branch it soon will place piece no.1 in (0,0). But, hey, we already computed a configuration with piece no. 0 and piece no. 1 in those positions, and hence all the (recursive) configurations following this one. This algorithm can be improved a bit more.

      To avoid this, I created a map that maps a string representation of the grid to a boolean (I would have created a Set with another language, but Go doesn’t have it) and this code to check it:

      So, every time the solver wants to place a piece, it first checks if it already did it before, and if it did, it just skips this state, otherwise it saves the new state into the map and goes on with that branch. Thanks to this optimization, the total computation time dropped from 6m19s to 1m44: another 3.5x performance increment!

      So, from the first implementation we had a 43x performance increase!

      Backspread

      Backspread

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