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Options strategies

June 16, 2021

What do long/short positions in call/put options mean?

In the simplest terms, there are four positions an investor can take in options:

  • Buy call options (long)
  • Write/sell call options (short)
  • Buy put options (long)
  • Write put options (short)

An investor that buys call options benefits from this position when the price of the underlying asset is higher than the strike price of the option at expiry. This allows the investor to buy the underlying asset at a price that is lower than the market price. Since the market price of the underlying asset could theoretically be infinitely high, the profit potential of this strategy is also unlimited. Conversely, if at expiry the price of the underlying asset is lower than the strike price, the option expires with no intrinsic value and the investor’s loss is limited to the option premium paid when entering into the contract. The writer of the call option has the opposite pay-off potential and receives a fixed option premium when they sell the contract. However, they may also have a theoretically unlimited loss.


An investor that buys put options benefits from this position when the price of the underlying asset is lower than the strike price of the option at expiry. The profit potential is generally capped, as most assets cannot have a value of less than 0 (though this is not always true). Conversely, if at expiry the price of the underlying asset is higher than the strike price, the option expires with no intrinsic value and the investor’s loss is equal to the option premium paid. The pay-off potential of the short put option position is the opposite of the buyer of the put option.

Call option

  • Long call option: an investor buys a call option on a share at a premium of €1, a strike price of €50, and the multiplier is 100. If at expiry the share price is below €50, the option will expire with no intrinsic value and the investor’s loss will be equal to the €100 premium paid to enter into the position. However, if the share price is higher than the strike price, then the option position starts earning a profit when the premium paid when entering into the position is offset, i.e. when it passes the break-even point, which is at €50 + €1 = €51.
  • Short call option: on the other side of the trade is the investor who sold the call option. If at expiry the share price is below €50, the writer will earn a profit equal to the €100 premium received from the long buyer. However, if the price increases above the strike price, then the writer of the call option will incur a loss when the share price crosses €51.

Schematically, the pay-off of a long and short call position looks like this:

Put option

Put option

  • Long put option: an investor buys a put option on a share at a premium of €1.50, a strike price of €40 and the multiplier is 100. If at expiry the share price is above €40, then the option will expire with no intrinsic value and the investor’s loss will be equal to the €150 premium paid. However, if the price is below €40, then the option position earns a profit when the price moves beyond the break-even point at €40 – €1.50 = €39.50.
  • Short put option: on the other side of the trade is the investor that has written the put option. If at expiry the share price is above €40, then the writer will earn a profit equal to the €150 premium received from the option buyer. However, if the price drops below the strike price, the writer of the call option will incur a loss when the share price crosses €39.50.

Schematically, the pay-off of a long and short call position looks like this:

Option combination strategies

Besides buying or selling single options, there are many other possible strategies that involve positions in multiple options simultaneously, as well as combining options with positions in the underlying assets. While there are infinite combinations possible, we outline five common combinations below.

Protective put

A protective put is a strategy that can be used to insure a stock portfolio against losses. The investor combines a long position in the underlying asset with a long put option. The long put option position caps any potential loss caused by a drop in the share price, as the investor will be able to exercise the put option at the strike price and lock in the sell price, only losing the premium paid.

Covered call

A covered call is constructed by combining a long position in the underlying asset with writing a call option against the same asset. By selling the call option, the investor receives an option premium. This guaranteed income offers a small downside protection; if a decline in the underlying price is lower than or equal to the amount of option premium received, the total position does not return a loss. In return, the investor caps the profit potential by agreeing to sell the shares at the strike price. As such, this strategy works well if the investor expects little change in the price of the underlying asset  or has determined an exit level for their investment at which they are happy to sell.

Protective collar

A protective collar strategy is a combination of a protective put and a covered call strategy. The long put option protects the investor from a downward move in the underlying asset’s price, while writing a call option generates a premium that offsets (some) of the cost of buying the long put (though it also limits the upside potential). This combination can be used to lock in unrealized gains in the underlying asset  without having to sell the shares right away. If the underlying asset’s price declines, the position is insured against losses via the long put option. Conversely, if the price of the underlying asset increases beyond the strike price of the call options, it will be exercised, with the investor selling the shares and realizing any gains.

Long straddle

A long straddle involves buying a call and put option on the same underlying asset with the same strike price and expiration date. This strategy can be used by an investor that believes the price of the underlying asset will move significantly, but is unsure about the direction of the move. The maximum loss of the strategy is limited to the sum of the premiums paid for the call and the put options. The further away from the strike price that the price of the underlying asset moves, the higher the pay-off of the straddle.

Call spread/Put spread

A call spread (put spread) is a combination that involves buying and selling call (put) options with different strike prices, called a vertical spread, or different expiration dates, called a horizontal or calendar spread. Compared to buying single call or put options, these strategies have more limited profit potential, but they are also cheaper to enter into because of the option premium received from writing options. Based on the direction the investor thinks the price of the underlying asset will move, spreads can be constructed as bullish to benefit from price increases in the underlying assets or as bearish to benefit from price decreases or no move.

Examples

Bull spread

a bull spread with calls involves a combination of a long and short call option with the same expiry, where the strike price of the short call is higher than that of the long call. A bull spread with puts involves a long and short put option, where the strike price of the short put is higher than that of the long put. This strategy works well when an investor is bullish on the market direction and also has an exit level where they are happy to sell.

Bear spread

a bear spread with calls involves a combination of a long and short call option, where the strike price of the long call option is higher than that of the short call option. A bear spread with puts involves a long and short put option, where the strike price of the long put is higher than that of the short put. This strategy works well when an investor is bearish on the market direction.

Long calendar spread

this involves buying a call (put) option with a longer time to maturity and selling a call (put) option with a shorter time to maturity on the same underlying asset at the same strike price. This combination strategy can be used when the investor has a neutral short-term outlook on the underlying asset. The combination’s profit is maximized when the strike price equals the price of the underlying asset at maturity of the shorter term option. In that case, the shorter term option that is sold expires with no intrinsic value, while the longer term option that the investor holds has maximum time value.

Schematic pay-off at expiration of the shorter maturity option

Short calendar spread

this involves buying a call (put) option with a shorter time to maturity and selling a call (put) option with a longer time to maturity. This combination strategy can be used when the investor expects a big price change in the underlying asset, but is uncertain of the direction of the change. The combination’s profit is maximized when the price of the underlying asset is far from the strike price at maturity of the shorter term option.

Schematic pay-off at expiration of the shorter maturity option