Option strategies offer perhaps the widest range of opportunities to earn money in different scenarios across the whole financial market. With a large selection of different options strategies, investors can theoretically profit in any market direction. This article provides a comprehensive list of option strategies, covering various types of options strategies ideal for any trading scenario. Furthermore, we’ll present all the option strategies with examples of their typical profit and loss profile.
Key takeaways
- Some popular option strategies in a bullish market include the long call and bull call spread, which allow traders to profit from upward price movement.
- For bearish conditions, traders often use the long put or bear put spread to benefit from declining prices.
- In markets with low volatility, strategies like the iron condor can generate profits, while in high volatility, the long straddle helps capture gains from significant price swings in either direction.
Different Option Strategies for Different Scenarios
You can build an option strategy for every market scenario—bullish, bearish, neutral, or volatile. All these types of options strategies are tailored to perform well under specific conditions. Let’s see a few different options strategies for specific trading environments.
Bullish Market Strategies
When you expect the market to rise, the table below summarizes the options trading strategies you could choose to employ:
- Long Call Strategy: Ideal for bullish markets, this strategy involves buying call options to benefit from price increases.
- Bull Call Spread Strategy: This involves buying and selling call options at different strike prices to cap potential profits and risks.
- Covered Call Strategy: Here, you own the underlying stock and sell call options to generate income, benefiting from moderate upward price movement.
- Naked Put Strategy: In this case, you sell a put to earn from a long trend in the underlying stock (although, with an OTM put, you could also benefit from a sideways or even slightly bearish trend).
- Protective Put Strategy: This strategy requires purchasing a put option to protect an existing long position in an underlying stock.
Bearish Market Strategies
For a declining market, the table below summarizes the option strategies that can be effective:
- Long Put Strategy: Buying puts allows you to profit from falling stock prices.
- Bear Put Spread Strategy: This involves buying and selling puts to limit losses while profiting from downward movements.
- Naked Call Strategy: A speculative strategy where you sell calls without owning the stock, suitable for experienced traders expecting price declines.
- Protective Call Strategy: This involves buying a call to protect an open short position on an underlying stock.
- Covered Put Strategy: Pretty much like the covered call, you own the stock and sell a put option on the same underlying instrument.
Neutral Market Strategies
The table below gives you a few popular option strategies for the case in which the market shows no clear direction:
- Short Straddle Strategy: Sell both call and put options at the same strike price, profiting from minimal price changes.
- Short Strangle Strategy: A more conservative version of the straddle, this strategy involves selling call and put options at different strike prices.
- Iron Condor Strategy: Involves selling two options and buying two options at different strike prices to profit from low volatility.
Volatile Market Strategies
In volatile scenarios, our synthetic table summarizes a couple of useful option strategies:
- Long Straddle Strategy: Buy both call and put options at the same strike price to benefit from significant price swings.
- Long Strangle Strategy: Similar to the straddle but with different strike prices, capturing profits from large market movements.
The Long Call Strategy
With little doubt, the first strategy a trader faces is, normally, the long call options strategy. This option strategy involves buying a call option, which gives the right to purchase an asset at a fixed price before expiration. It’s ideal for bullish markets where you expect a rise in the asset’s value.
This is what the P&L of a long call will normally look like:
As you can see from the chart above, you have a capped loss risk (given by the premium of your call) and a theoretically unlimited profit possibility.
The Long Put Strategy
Another extremely popular option strategy is the long put options strategy, designed for bearish market scenarios. This options trading strategy involves purchasing a put option, granting the right to sell an asset at a predetermined price before expiration.
It’s perfect for traders anticipating a drop in asset value, and its typical P&L looks like this:
Keep in mind that you can find long puts and other option strategies with examples on a screener for options like ours. With a long put, you face a limited risk equal to the premium paid, while having the potential for significant profit if the market declines.
The Naked Call Strategy
So far, we’ve only seen what happens when you buy either a call or a put. But what about selling a call without owning the underlying asset? The naked call options strategyinvolves selling a call option, betting the asset’s price won’t rise above the strike price before expiration. If wrong, potential losses are unlimited, making it a high-risk option strategy.
Here’s what the typical P&L profile typically looks like:
As you can see from above, you have a potentially unlimited loss if the stock price rises above your breakeven price, and your profit is capped at the premium of the call you sold.
The Naked Put Strategy
We have just seen the naked call strategy, so it will be easy for you to grasp the naked put options strategy. This option strategy involves selling a put option without owning the underlying asset, betting that the asset’s price won’t fall below the strike price before expiration.
Here’s how the P&L profile typically looks:
Notice, once again, how risky the naked put can be. If the stock price drops below your breakeven point, you could face unlimited losses, while the potential profit is capped at the premium of the put you sold.
The Protective Put Strategy
You could also mix an option leg with a stock leg by using the protective put strategy. This type of option strategy involves buying a put option while holding the underlying asset. It’s a type of options strategy ideal for guarding against downside risk.
If the asset’s price drops, the put option offers a safety net, offsetting potential losses. This is what your typical P&L will look like:
As you can see, your downside risk is limited by the put option while your profit potential remains unlimited (only reduced by the cost of the put you bought).
The Protective Call Strategy
We have just talked to you about the protective put, so you can easily understand the protective call strategy. This option strategy involves purchasing a call option to safeguard against losses on a short position.
Your typical P&L for this case is:
As you can see, the protective call strategy limits your potential losses on a short position while maintaining unlimited profit potential. The cost of the call option will reduce your net profit if exercised.
The Covered Call Strategy
Next, we have the covered call strategy, a staple among option strategies for generating additional income on stocks you already own. This options trading strategy involves selling call options against your stock holdings. By doing so, you collect the premiums, which can boost your income, especially in sideways markets where stock appreciation is limited.
In terms of P&L, this strategy looks as follows:
Notice how the potential profit is capped, while your downside risk is partially mitigated by the premium collected (but still uncapped).
The Covered Put Strategy
As you have probably already guessed by now, you can apply the concept of the covered call strategy described above to the covered put strategy. This option strategy involves shorting a stock and simultaneously selling a put option on it. It’s one of the options trading strategies that allows you to capitalize on falling stock prices. By selling the put, you earn a premium, which can offset some losses if the stock price rises unexpectedly.
Your P&L profile will look like this:
Similar to the covered call, your potential profit is capped, while upside risk is partially mitigated by the premium collected.
The Bear Put Spread Strategy
Option spreads are also a crucial part of option strategies, and the bear put spread strategy is a prime example. This options trading strategy involves buying a put option anticipating a drop in stock prices and simultaneously writing a second put with a lower strike price.
This approach represents a way to profit from declines while controlling expenses, highlighting the variety within different options strategies.
We’re giving you a full list of option strategies with examples, so here’s the typical P&L profile you will find when opening a bear put spread:
Note how the potential losses are limited, while profit is also capped. The spread between the two strike prices influences your maximum gain or loss.
The Bull Call Spread Strategy
We saw the bear put spread, so it’s only natural to take a look at the bull call spread strategy as well. This options trading strategy is perfect for when you expect a moderate rise in asset prices. This option strategy involves buying a call option with a lower strike price and selling another with a higher strike price.
Your P&L profile will look like this:
As you can see, potential gains and losses are both limited due to the spread between the two strike prices. It’s a less risky strategy compared to, for instance, opting for a naked put to profit from a neutral-to-bullish market.
The Long Straddle Strategy
But what if you wanted to bet on a stock price movement without picking a direction? That’s where the long straddle option strategy comes in. This option strategy involves buying both a call and a put option at the same strike price and expiration.
It’s one of the options trading strategies that allows you to profit from significant price shifts, whether up or down.
In case you’re wondering, the typical P&L profile is:
Notice how the potential gains are unlimited, with capped potential losses. It’s a defined-risk strategy that requires significant price movement to be profitable.
The Short Straddle Strategy
Now imagine reverting the long straddle strategy we have seen in the previous section, and you arrive at the short straddle. This option strategy involves selling both a call and a put option at the same strike price and expiration. It’s one of those options trading strategies designed to profit from minimal price movements, making it a key part of different options strategies.
The P&L profile is as follows:
As you can see, the potential gains are limited to the premiums collected, but potential losses are unlimited.
The Long Strangle Strategy
Now suppose you’re looking for a strategy that is similar to the long straddle mentioned above but at a lower cost: that’s where the long strangle option strategy comes in. This option strategy involves purchasing both a call and a put option, but at different strike prices.
It’s one of the options trading strategies that benefits from significant market swings in either direction. Take a look at the P&L below:
Notice that, compared to the long straddle, you will need a larger price movement to be profitable. However, the cost of this strategy is also lower, and your losses are capped as well.
The Short Strangle Strategy
As you probably expect by now, we’ll take a look at the reverse case of the long strangle strategy we have just described. The short strangle is an options trading strategy where you sell both a call and a put option with different strike prices.
This option strategy is designed to profit from stable markets with minimal price movements. The P&L will look as follows:
As you can see, potential gains are limited to the premiums collected, while potential losses are virtually unlimited. It’s a high-risk strategy that should only be used in specific market conditions.
The Iron Condor Strategy
Last but not least, let us show you another way to profit from a lack of market movement with the iron condor strategy. This option strategy involves selling a call and a put option at closer strike prices while buying another call and put at further strike prices. This setup creates a zone of potential profit from low volatility. In fact, you could choose to apply this strategy on options having low-volatility stocks as underlying.
The P&L profile looks like this:
Notice how the potential gains are limited, but so are the potential losses.
When taking a look at all these option strategies with examples, consider the one that best adapts to your market outlook and risk tolerance before trading. All these types of options strategies can perform well and not so well depending on the scenario in which you find yourself, so paper trading is always a very good idea if you are not sure about how a trade setup works.
