You might be new to the trading game (and trust us when we say this we’ve all been there) but still want to start trading. If this is the case, options are a great way to hedge against some of the risks an investor will likely face. Options offer the owner the option to buy or sell a stock on a specified date for a specified price. The keyword here is an option. This means even after buying the right to buy or sell the purchaser does not have to follow through on it. However, it is a little more complicated than that. After all, defining what an option is and what it can mean for our investments is easy. But cleverly defining options trading strategies is a whole other story.
When it comes to option trading, there is a little more security. How so? Rather than deciding what price a certain asset will hit, you can take the opposite position and guess which positions it won’t hit. This might be a little easier and better than the probability that you will make some money. Before we get ahead of ourselves, the world of calls and puts can be scary so we’ll start from the beginning.
Calls vs. Puts
When it comes to options trading, you’ve likely heard these two words come up a decent amount. As a quick recap, a call option allows a buyer to buy a crypto asset at a predetermined strike price by a certain expiry date. By purchasing the option, the buyer can purchase these shares at the lower market price and sell them in the market at the prevailing higher price. You would purchase a call option if you are bullish and believe the price of the stock will increase.
On the other hand, if you believe the price will go down, you will exercise a put option. A put option is a negotiable contract that gives the buyer the opportunity to sell your already purchased stocks at a predetermined price. This means that if you were to purchase a put option you would buy the asset at the market price and sell it to the put writer at the strike price. Your profit would be the striking price minus the premium paid for the option.
Whether you are purchasing a call or a put your risk isn’t the cost of the stock. It is the cost of the option. This can be further reduced if you use one of these low-risk options trading strategies.
Using Options as a Strategic Investment
To do well with options trading you need to more than pick and pray. Instead, we recommend taking a look at what some of the experts do to ensure their trades are profitable. Cryptocurrency is volatile As a new trader, we would hate to see you lose thousands in a dip in the market. A nightmare all too common in the crypto world.
Cover the Call
One of the safest positions you can take is known as a covered call position or a buy-write. This can be a great way to enhance your earnings. In this strategy, you are selling the right for someone to purchase a stock that you own, at a specific price, on a specific date. The best part? When selling a contract you will receive the premium instantly. This also means if the stock stays the same or decreases you will profit. The person who buys your contract will only profit if the asset goes up a specified amount within the time frame. This suggests that the chances of you doing well are better than the chances that the purchaser will profit.
Most importantly, the instant premium you will receive can be used to protect yourself in other risky positions you have taken.
For beginner traders, this strategy is most effective when selecting an asset that you already own. That way, in the off chance that you lose on the contract you can simply deliver your assets.
Bear Put Spread
Similar to the strategy we mentioned above is the bear put spread. This is essentially the reverse strategy of the bull call spread and would only be used if you believe that the price of an underlying asset will go down. By executing this strategy, you would purchase a put with a lower strike price. You would then sell a put with an even lower strike price.
To give you an example, this strategy would look something like this:
Say the latest cryptocurrency you are looking at is $60. You decide to purchase a put option that is $40 for a premium of $3. At the same time, you might also decide to sell an option with a strike price of $25 for a premium of $1. As you might have noticed the outcome is very similar to that of the bear put spread. If the price of the asset is to drop below the $25 strike price, you could only earn a maximum of $13. This strategy is great for limiting your potential loss, as long as you are okay limiting your potential gains as well.
Protecting your Put
On the other hand, you might decide to protect your put. This is a strategy used when investors purchase assets they plan on keeping in their diversified portfolio but might be worried that the price will decline. Think about assets that have a reputation for volatility like bitcoin.
To execute this strategy you would also purchase a put option for the same asset that you own. If the price rises, you the investor will benefit and your put will just expire. Your losses will be limited to that of the contract price. If the price goes down you can exercise the option and make some gains and continue holding your assets for the long haul.
Here’s where some more terminology comes in. Say, for example, you decide to purchase the same number of assets and puts to cover the assets, you are entering into a strategy known as the married put.
Bull Call Spread
If neither of these strategies are cutting it for you, you might decide to take a bull call spread strategy. In this strategy you, the investor, will simultaneously buy calls at a specific strike price and sell the same number of calls at a higher strike price. Both call options will have the same expiration date and be held on the same underlying asset. This means step one is choosing a crypto asset you believe will go up in price and determining over what period of time you expect it to do so. Next, you will buy a call option for a strike price above the current market. The price of this contract will be your total losses. The next step is selling a call option for a higher strike price for the same date as the first call option.
Another terminology tip. The situation described above is a vertical spread strategy since the asset is the same but the strike prices are different.
An Instant Premium
The main benefit of doing this is that the instant premium you get for selling a call option will reduce the price of the contract you purchased, making it a cheaper option. The bull call spread also reduces the losses to the difference between the two contracts if the price were to drop but significantly decreases the earnings if the price goes beyond the strike price on the option you wrote.
How would this look you might ask? Let’s give you an example. If a crypto asset was prevailing at $100 you might decide to purchase an option with a strike price of $110 for a premium of $3. However, to protect yourself, you might also sell one at $120 with a premium of $2. This means your total potential losses would be a total of $1. Now let’s say that the asset was to go to $165. You would earn a profit at your strike price of $110 but you would only earn up to the $120 mark where you sold your option. This means you could earn up to $9 on this transaction.
Take a Long Straddle
If none of these strategies were cutting it for you, you might like this next one. This strategy is known as a long straddle position. To execute this, the investor would purchase both a call and a put option on the same underlying asset, with the same strike price and the same expiration date. This is often the best scenario if you believe that the stock price will move drastically either up or down but you don’t know for sure which way. One such case this would be applicable is in the recent Bitcoin Halvening. As we all know, bitcoin is quite volatile and we don’t necessarily know how the asset will respond to this news.
By taking this approach, you will technically have the opportunity for unlimited profit potential. This is because the asset in question could continue rising indefinitely. On the other hand, if the asset were to drop, the lowest it could go is zero. The only risk is the cost of both options you have purchased.
Do the Butterfly (Spread)
There are actually several variations to the butterfly spread including the long call butterfly spread, the long put butterfly, and the iron butterfly just to name a few. However, in short, we can say that this strategy combines both bull and bear spreads and 3 different strike prices. These three strike prices include one that is a certain amount higher than the market price, one that is equal to the market price of the asset and one that is the same amount lower than the asset price. You would execute this more complicated trading strategy if you believe the stock will stay within a various range by the expiration date.
Keep in mind, the maximum profit will have to deduct all of the commissions paid in the contracts purchased. This means that the maximum risk the investor could incur is if the stock fell below the lowest strike price or rose above the highest strike price. In either of these cases, all of the contracts would expire worthlessly and the cost of the contracts would be your loss.
Create a Collar
The last on our options trading strategy list is known as the protective collar strategy. This strategy can be defined as selling a call option that has a strike price that is higher than the market value and buying a put that has a strike price lower than the market value of the asset. These options will both be purchased for the same underlying asset with the same expiration date.
You, the investor, would typically choose a collar position if you already own an asset that has been doing well over the last little bit. In this case, purchasing a collar would allow investors to have some downside protection in case the asset takes a turn for the worst.
In action, consider you purchased bitcoin for $4,000 and it rises to $4,200 in one month. You might then decide to give yourself some protection by purchasing a collar by selling a call option for $4,300 for two months from now while also purchasing a put for $4,100 for that same date. This means if the asset were to drop to $4,100 you would still be protected. The only risk you will face is the potential for selling your assets at $4,300 if they rise above the strike price.
Options Trading Strategies – General Tips
We know there are many different positions that you can take to help limit your risk when trading options. This can make it hard to know where to start. However, regardless of what you choose, we wanted to remind you of some standard trading advice. Managing the fear and greed index applies to any and all trading scenarios no matter how low risk a strategy may seem. After all, no good essentials guide could go without standard tips and tricks
Don’t Wait Until Expiry
While you might get excited when you start to see your assets are going in the direction you predicted, you may be tempted to continue waiting it out. That said, we’d advise you to be careful. The market is unexpected and random. This means it is very likely that your stocks will take a turn and you will be left with nothing. Therefore, lock in your profits when they cover your premium and earn you a little bit extra. Exit the trade.
Someone willing to take the risk of the remainder of the trade can ride the rest out.
Quantitize Your Risk
Before entering any trade, it is important to consider just what you are getting yourself into. This means putting a number to the risk you are taking. You can do this by calculating the amount you will lose given the worst possible outcome. This will often be the cost of your contracts for each position. After considering the amount lost in the worst possible scenario, make the decision. Is this an amount you can afford to lose if things don’t go your way?
Leverage the Wisdom of The Masses
We aren’t here to toot our own horn. But as a trader you might do well from following some of the predictions other traders are making. If this is the case, using a platform like Hedgetrade might just be the answer. Here you can leverage the advice of some of the best traders in the world. Traders are rewarded if the prediction “Blueprint” is correct. Otherwise, the user’s purchase is refunded.
By following the educated predictions of those who know the industry, you will be equipped with the knowledge to take lower risks when trading. How so? By unlocking a Blueprint, you can see what other traders have predicted for the price of your asset. With this information, you can make more accurate predictions when buying or selling an option.
With these options trading strategies, we know that you will be equipped with some of the tools needed to add some low-risk trading options to your diversified portfolio. While these typically apply to stocks, you can also purchase calls and puts for cryptocurrencies. That said exchanges like Deribit and Ledgerx both give the opportunities to trade cryptocurrency options.
We know you might need to continue referring to the guide as you start trading. No worries, that is what the essential guide is here for.