These are the options that have an index as the underlying. In India, the regulators authorized the European style of settlement. Examples of such options include Nifty options, Bank Nifty options, etc. These are options on the individual stocks with stock as the underlying. The contract gives the holder the right to buy or sell the underlying shares at the specified price. Call Option — An option that provides the holder the right but not the obligation to buy an asset at a set price before a certain date.

Put Option — An option that offers the holder, the right but not the obligation, to sell an asset at a set price before a certain date. Premium -The price that the option buyer pays to the option seller is referred to as the option premium. Expiry date — The date specified in an option contract is known as the expiry date or the exercise date. Strike price — The price at which the contract is entered is the strike price or the exercise price.

American option — The option that can be exercised at any date until the expiry date. European option — The option that can be exercised only on the expiry date. In-the-money ITM option is the one that leads to positive cash flow to the holder if it was exercised immediately. Out-of-the-money OTM option is an option that would lead to negative cash flow if it were exercised immediately. Disclaimer: The views expressed in this post are that of the author and not those of Groww. Investment Basics.

Call and Put Options: What Are They?

Measure content performance. Develop and improve products. List of Partners vendors. Options are conditional derivative contracts that allow buyers of the contracts option holders to buy or sell a security at a chosen price. Option buyers are charged an amount called a "premium" by the sellers for such a right.

Should market prices be unfavorable for option holders, they will let the option expire worthless, thus ensuring the losses are not higher than the premium. In contrast, option sellers option writers assume greater risk than the option buyers, which is why they demand this premium.

Options are divided into "call" and "put" options. With a call option , the buyer of the contract purchases the right to buy the underlying asset in the future at a predetermined price, called exercise price or strike price. With a put option , the buyer acquires the right to sell the underlying asset in the future at the predetermined price.

Introduction to trading options

There are some advantages to trading options. The following are basic option strategies for beginners. This is the preferred strategy for traders who:. Options are leveraged instruments, i. A standard option contract on a stock controls shares of the underlying security. Because the option contract controls shares, the trader is effectively making a deal on shares. Potential profit is unlimited, as the option payoff will increase along with the underlying asset price until expiration, and there is theoretically no limit to how high it can go.

A put option works the exact opposite way a call option does, with the put option gaining value as the price of the underlying decreases. While short-selling also allows a trader to profit from falling prices, the risk with a short position is unlimited, as there is theoretically no limit on how high a price can rise. With a put option, if the underlying rises past the option's strike price, the option will simply expire worthlessly.

The maximum profit from the position is capped since the underlying price cannot drop below zero, but as with a long call option, the put option leverages the trader's return.

This is the preferred position for traders who:. A covered call strategy involves buying shares of the underlying asset and selling a call option against those shares.

What Is Options Trading?

When the trader sells the call, he or she collects the option's premium, thus lowering the cost basis on the shares and providing some downside protection. In return, by selling the option, the trader is agreeing to sell shares of the underlying at the option's strike price, thereby capping the trader's upside potential.

In exchange for this risk, a covered call strategy provides limited downside protection in the form of premium received when selling the call option. A protective put is a long put, like the strategy we discussed above; however, the goal, as the name implies, is downside protection versus attempting to profit from a downside move.

If a trader owns shares that he or she is bullish on in the long run but wants to protect against a decline in the short run, they may purchase a protective put.

If the price of the underlying increases and is above the put's strike price at maturity , the option expires worthless and the trader loses the premium but still has the benefit of the increased underlying price. Hence, the position can effectively be thought of as an insurance strategy. The trader can set the strike price below the current price to reduce premium payment at the expense of decreasing downside protection.

This can be thought of as deductible insurance. The following put options are available:. The table shows that the cost of protection increases with the level thereof. If, however, the price of the underlying drops, the loss in capital will be offset by an increase in the option's price and is limited to the difference between the initial stock price and strike price plus the premium paid for the option. These strategies may be a little more complex than simply buying calls or puts, but they are designed to help you better manage the risk of options trading:.

What is Options Trading?

Options offer alternative strategies for investors to profit from trading underlying securities. There's a variety of strategies involving different combinations of options, underlying assets, and other derivatives. Basic strategies for beginners include buying calls, buying puts, selling covered calls and buying protective puts.

There are advantages to trading options rather than underlying assets, such as downside protection and leveraged returns, but there are also disadvantages like the requirement for upfront premium payment.

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• How to Trade Options in 4 Steps!

The first step to trading options is to choose a broker. Fortunately, Investopedia has created a list of the best online brokers for options trading to make getting started easier.