Blog #27 : Use option strategies (Strategies For Trading Options Part - II)

 

Use option strategies which involve selling of options as well

Most successful strategies in the Indian context involve selling of options. Traders do so in order to reduce their net investment. Traders and investors need to remember that even if the news they have is correct, it can take time before the price moves in the expected direction. But if they run out of time on an option, they are in any case going to make a loss. Options buyers should remember that option sellers are very smart people and the chances of their having priced in fundamentals have expected news is very high. In some cases sold options can even be twice the number of bought options. 

 

 

Net investment should be kept to the minimum possible and returns should be calculated on net investment basis.

Investors and traders need to remember, particularly when using strategies that involve buying options, that they can lose even if the stock moves in their expected direction. This can happen if a very expensive strategy is used and favorable movement is not dramatic options have been bought and the seller has priced in the expected movement of the stock. Traders need to always remember that the options game is loaded in favor of the option seller who likes to price in every conceivable event and movement in the market or a given stock. 

 

Be careful of well advertised strategies, they are more expensive to execute; it is somewhere worthwhile to pursue the opposite strategy. 

Financial media often try to "help" retail traders by suggesting option strategies. I wish it were that example. For example, often during the budget period they recommend a strategy called buying the straddle which involves buying a call and a put of the same strike price. Since the straddle ends up being very expensive and it becomes impossible to make any money by going in for it. There are other times when buying calls or puts is highly recommended for reducing risk. At these times it worthwhile to do the opposite since the market would have already discounted the entire expected price move, of course, this must be done with appropriate hedging.