Building an options trading strategy through a personalized approach with the specific investor in mind is the best way to limit risk and protect against unfavorable market movements. There is never a guarantee with any investment, but trading with a professionally designed strategy can increase the chances for success. The art of trading options is intricate and potentially overwhelming, so here are a few of the most common strategies to help navigate the world of options.

Covered Call
The covered call is an interesting strategy, as the risk potential is much higher than the reward. From a market standpoint, investors engage in this strategy when they have a neutral to bullish opinion on the underlying contract. The covered call is executed by holding a long position on an underlying contract, while selling a call against the same underlying asset. Increasing volatility will negatively affect this strategy, and the converse is also true. While this approach is common, it is critical to assess risk tolerance prior to executing, as there is a limited upside with unlimited downside.

 

Strategy: Covered Call

Nov Crude Oil

Buy Sell
Long 1 CLX Future at 50.00

Short 1 CLX 55.00 Call at 1.80

Unlimited Risk to 0

Max Profit Potential: The distance between the long futures and the short call, plus the premium collected on the short call.

55.00 – 50.00 = 5.00

5.00 + 1.80 = 6.80

6.80 x $1,000 = $6,800 max profit potential less commission and fees.

Risk: Unlimited minus $1,800 collected on the short 55.00 call (1.80 x $1,000) plus commission and fees.

 

Bull Call Spread and Bear Put Spread
The bull call spread is a moderately aggressive, bullish strategy. It has a limited upside and downside, so both risk and profit are restrained. The way investors implement this strategy is through purchasing a call on an underlying contract, while selling a call on the same underlying with the same expiration month but at a higher strike price. The price the investor paid for the lower strike price call can be partially offset by the premium that is collected from selling the higher strike price call.

The bear put spread is a very similar strategy, but investors should use this when they believe the markets might move down. (This is the opposite mentality of the bull call spread.) A bear put spread is executed by purchasing a put underlying contract, while selling a put on the same underlying with a lower strike price in the same month.

 

 

Strategy: Bull Call Spread

Nov Crude Oil

Buy Sell
Long 1 CLX 50.00 Call at 2.80 Short 1 CLX 55.00 Call at 1.80

Max Profit Potential: The distance between the long call and the short call, minus the premium that paid for the spread.

55.00 – 50.00 = 5.00

5.00 – 1.00 = 4.00

4.00 x $1,000 = $4,000 max profit potential less commission and fees.

Risk: The premium paid $1,000 less commission and fees.

2.80 – 1.80 = 1.00

1.00 x $1,000 = $1,000

 

Strategy: Bear Put Spread

Nov Crude Oil

Buy Sell
Long 1 CLX 50.00 Put at 2.80 Short 1 CLX 45.00 Put at 1.80

Max Profit Potential: The distance between the long put and the short put, minus the premium that paid for the spread.

50.00 – 45.00 = 5.00

5.00 – 1.00 = 4.00

4.00 x $1,000 = $4,000 max profit potential less commission and fees.

Risk: The premium paid, $1,000 less commission and fees.

2.80 – 1.80 = 1.00

1.00 x $1,000 = $1,000

 

Protective Collar
A popular, long-term strategy is the protective collar, which provides strong downside protection. Many investors use the protective collar because it can be executed for little to no cost by purchasing puts and selling calls simultaneously at the same expiration, but at different strike prices. The protective collar works best when it is used in tandem with other strategies. Essentially, the investor surrounds the underlying asset with a long put and a short call (if the underlying is long). In a perfect world, the money used to pay for the put is earned from selling the call at a similar price. This is the beauty of this strategy. The investor may not see a cost because the put is purchased for protection, and paid for with the money earned from selling the call.

 

 

Strategy: Protective Collar

Nov Crude Oil

Buy Sell
Short 1 CLX 55.00 Call at 1.80
Long 1 CLX Future at 50.00
Long 1 CLX 45.00 Put at 1.80

Max Profit Potential: The distance between the long futures and the short call, plus or minus the premium paid or collected on the short call and long put. In a perfectly balanced collar, the ideal price for the underlying futures would be Long at 50.00 (exactly midway between the call and the put)

55.00 – 50.00 = 5.00

5.00 + 0.00 (C1.80 – P1.80) = 5.00

5.00 x $1,000 = $5,000 max profit potential less commission and fees.

Risk: The distance between the long futures and the long put, plus or minus the premium paid or collected on the short call and long put.

50.00 – 45.00 = 5.00

5.00 + 0.00 (P1.80 – C1.80) = 5.00

5.00 x $1,000 = $5,000 max risk potential less commission and fees.

Trading options should be actively managed and combined with other strategies to capitalize on market movements and protect against turns in the markets. It is highly recommended to work with professionals who have the knowledge and expertise to create, execute and adjust multiple options strategies. It is essential to assess risk tolerance prior to engaging in any options trading.Trading futures and options involves the risk of loss.