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Does anyone just trade options?

Jane Goodwin


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Some strategies use just options to take a position in the market. Straddles for example is a market neutral strategy where you simultaneously buy and sell option positions in the same underlying instrument with the same strike price and expiration date. The below graph shows that should the price of the underlier move far enough, up or down, then the strategy will record a profit. The target here is price movement. Should it fall to 80 or less then the long Put option will post a profit. If the price of the underlier moves above 140 then the long Call option will record a profit, and this leg of the trade has unlimited upside. If the price of the underlier is between 80 and 140 on expiry date then the position posts a loss relating to the premium paid to take the option positions at inception. This highlights one approach to risk management that can be taken. If you are buying options then the maximum loss on your position is the premium paid. That doesn’t of course guarantee a profit but there is some comfort from having the downside capped. Alternatively, it’s possible to sell options to others and collect the premium yourself. Selling naked options (not hedged with a position in the underlier) is a risky strategy and can expose the seller to unlimited losses. Even if hedging then there is still some operational risk involved. It is something that some people make a living out of but is definitely one for the more experienced trader. Conventional wisdom among option traders is that taking profits and nibbling away at small returns is the best approach. Position sizes are small in relation to total wallet size. All ways of limiting risk on individual positions and normalizing returns seen as being part of the program. A final option-only strategy that you might want to consider is trading in out of the money options. Whilst not a widely used strategy taking positions in these would return profits in the event that markets experience substantial moves (in your favor). Whilst something of a ‘punt’ in nature it takes up little time and can act as a form of insurance policy against extreme events.
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