How to make money buying stock options

This options trading guide focuses on what call options are and how this bullish strategy plays out on the chart.

We explain the potential upsides and downsides of call options as a risk-defined instrument using examples throughout the guide. Want to get started option trading, and just looking for which brokers are available in? Have a look at these first:.

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Disclaimer: Availability subject to regulations. Between Read on to find out how to trade call options and how you can calculate potential call options profits and losses prior to trading live on a stock or commodity. Buying call options is a bullish strategy using leverage and is a risk-defined alternative to buying stock.

Call options assume that the trader expects an increase in stock price following the purchase of the options contract. For the trader to profit, the stock price has to increase more than the strike price and the options premium combined. Please note, this is an example trade — not a recommendation.

There are numerous reasons to be bullish: the price chart shows very bullish action stock is moving upwards.

The trader might have used other indicators like MACD , Stochastics , or another technical or fundamental reason for being bullish on the stock. When a call option is purchased, the trader instantly knows the maximum amount of money they can possibly lose.

This is the risk-defined benefit often discussed about as a reason to trade options. Think about it: you purchase insurance when you buy a new car or other valuable items, why not surround your portfolio with insurance, as well? Limit your downside and grow your potential for profit by approaching options without fear. Purchasing options with the goal of speculating on the future price movements of stocks allows you to lower your risks compared to buying or shorting a stock outright, while simultaneously opening the door for unlimited earnings.

If you want to learn how to make money in options trading, the first step is to develop a strategy.

There are two main types of options, call options and put options. Both are a type of contract. These option contracts involve two parties, the option holder buyer and the option issuer seller. Simply stated, call options afford the right to buy, and put options afford the right to sell, the underlying shares at a predetermined price the strike. So, a call option gives the option holder the right to buy shares at the strike price within a determined period of time.

A put option gives the option holder the right to sell shares at the strike price within a set period of time.

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So, in the simplest terms, an investor thinks the value of the shares will rise, they buy call options. If they think the value will fall, they buy put options. Want to learn how to make money trading call options? Once the investor has purchased this call option, there are a few different ways things could play out. As with most trading, there is some risk involved when it comes to purchasing call options. When thinking over your call option strategy, consider that the potential for gain is much greater than the potential for loss.

There is certainly money to be made in this practice. Understanding options trading is the only way you can make more money with this type of market play. Can more money be made with options trading than traditionally trading shares? That depends on your strategy. This is the time to get in the game. But, could that return be even higher?

You are not, however, obligated to purchase those shares. So, can you receive greater returns with options compared to simply buying shares? Yes, yes you can. Not only can you make more money with options trading, but you can also put less capital at risk. Simply put, you can never lose more than what you originally paid for the call option contract, no matter how far the value of the stock may drop.

Standard equity and index option contracts in the United States expire on the third Friday of that month. As the stock market continues to adapt to the popularity of these contracts, though, more stocks are offering options contracts with weekly expiration dates for a quicker turn-around. In the second scenario, you can let the expiry date pass, at which point the option will become worthless.

Your loss is just the premium paid for buying the option. The other point to understand is that an option is merely a contract dealing with an asset. This is why options are called derivatives deriving value from the underlying asset. It is used mostly in stocks and commodities. A call option gives the buyer the right to buy the asset at a pre-determined price before or on maturity date. A put option gives the buyer the right to sell the asset at a pre-determined price before or on maturity.

Kiran Kumar Kavikondala, director, WealthRays, says, "Most investors are scared of using options due to lack of awareness about the instrument and ways it can be used. In this, as the contract nears expiry, the premium start falling," says Kavikondala. Sahaj Agrawal, deputy vice president, Derivatives Research, Kotak Securities, says, "In the Indian context, index options account for most of the activity in the options trading segment.

They enable investors to take high exposure by paying a small premium. Risk-reward payoff - Options provide an opportunity for unlimited upside with limited downside risk of losing premium. They can be used in a wide variety of strategies to profit from the ever fluctuating market. Lower liquidity - Options in many individual stocks don't have much volume. The fact that each covered stock will have options trading at different strike prices and expiry dates means there is a strong chance that the option you are trading will have low volumes unless it is very popular.

Higher spreads - Options have higher spreads due to lack of liquidity.

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This means more indirect costs because you will be giving up the spread when you trade. In the Indian context, index options account for most activity in the segment: Sahaj Agrawal, Deputy Vice President, Derivatives Research, Kotak Securities Brokerage costs - Option trades generally cost more in terms of the brokerage charged per lot. This brokerage fee may be higher for spreads where you have to pay commissions for both sides of the spread. Complicated - Options are complicated for beginners. Most beginners, and even some advanced investors, think they understand them when they don't.

In case of unfavourable market movement, the risk to capital is high.