Everyone is aware investing can be risky. You, by no means, guess how the market will trade. But traders or investors can use this to their benefit with the aid of put and call options. These contracts allow the option holder to buy or sell shares at a fixed price in particular periods. With put-call options, you can measure the general mood of the market. They give the right to buy or sell shares at predetermined prices. You can buy put and call options on trading portals like IIFL Securities. However, you may not have come across these derivative contracts in stock market basics. We shall attempt to clarify all your doubts today.
What are Call Options?
A call offers traders the choice to buy shares at a specific price called the strike price in a particular time frame called the expiration date. However, there is no obligation to buy the shares. The seller, also known as the writer, can sell the shares at the strike price till the expiration date. For example, let’s say an investor buys a call option of a Stock for Rs.210 per share with the right to exercise the transaction for four months. The seller may exercise the option for Rs.210 till the expiration date, despite an increase in share price.
What are Put options?
Let us now know what is put options. Put options are derivative contracts which let someone acquire the right, without any obligation, to sell an asset at a fixed price and date. This exact price determined in the agreement is the strike price. A put option is an excellent device for traders who need to protect their investment in case the price of assets goes down in future.
To know how put options can be a better choice for you, it is crucial to understand how these two derivative contracts work. The underlying risks are also quite important to be aware of. Only then can one decide which one he should go with.
How put options work
A put gives you profit when the premium is less than the difference between the strike price and stock price at its expiry. Suppose a trader bought a put option paying a premium of Rs.5 with a strike charge of Rs. 360. and the shares are worth Rs.295 at expiration. The profit for the trader is Rs.60.
How call options work
Adding the strike price and premium gives the breakeven point in call options. You may calculate profit or loss by subtracting the present price from the breakeven point. There’s additionally a calculator you may use. Find it on IIFL Securities’ online portal. Let’s assume you purchase a call option at a strike price of Rs.525 and 3 months expiration date. Its current market value is Rs. 475. The premium is Rs 20/share. Since options contracts include at least a hundred shares, the overall value shall be Rs 2000. The breakeven point could be Rs.550. If the price reaches Rs.570, your earnings could be Rs 20/share. If it remains at Rs.535, you will lose Rs.15/share. You can lose a maximum of Rs. 2000 paid as premium.
Advantages Of Put Options
Let’s see-through how the put options benefit over the call option.
- Through Time Decay
Time is crucial in options trading. The closer an option is to its expiry period, the less treasured it becomes. Hence, the put option gives an advantage through this time decay. Selling the shares in that duration can bring profits. However, the call option cannot benefit an individual with time decay.
- Provides the right Price Direction
The shares of a security of an option can go in any direction. It can see an upward push or fall extensively due to social, financial and political reasons. For investors with call options, it is vital to enter a call option at a lesser price than the strike price. However, buyers with a put option can earn profits if there is no change in the security price or case of a minor change. This guarantees you profits much more than a call option.
- Gain from volatility
Implied volatility shows how expensive an option contract is. When the implied volatility in a marketplace is excessive, the agreed price tends to be higher. To sell at higher prices and purchase an asset at lower prices, implied volatility should be high but decrease going ahead. Excessive implied volatility tends to drop with time. So, the investors or traders with a put option are certain to earn more over a period because market conditions remain favourable for them.
conclusion
Put and call options allow the investors to take advantage of the price change of securities. Both the derivatives offer you a chance to buy and sell assets at specific prices so that you profit from the price difference at the time of buying and selling. A put option is useful if you think the price will increase. Conversely, a call option is beneficial if you anticipate volatility will reduce. However, put options are preferable as you know the base price while entering the option. Moreover, the maximum loss you may incur is the premium you pay while purchasing the options. This is not the case with call options where losses can be unlimited.
