Michael Shulman

2 Types of Bullish Bets

by Michael Shulman   09/05/08

When options traders are bullish on the direction of the underlying instrument's price (i.e., they expect the price of the stock to go up), they can either buy call options or sell put options.

Before deciding which strategy is right for you when you're looking to profit from upside action, it's wise to weigh the risks versus the potential benefits. First, take into consideration whether you would prefer to pay a debit to purchase a call (and earn it back, preferably with a profit, during the life of the trade) or instead collect a credit upfront when you short (i.e., sell to open) a put. (The goal with the short option is to keep the credit as well as to garner additional profits.)

With either strategy, you benefit from an upward movement in the stock, and profitability is determined by the stock price staying above the strike price of the option you hold.

BE CAREFUL WHEN 'PUTTING' YOUR CAPITAL AT RISK

While it sounds like a quick-win strategy to collect a credit as soon as you initiate the trade, with such instant gratification comes greater risk. When you buy a call, the most you can lose on the trade is what you put into it. So, if you buy a $1 call and it cracks, you lose $100 per contract, as well as any commissions you paid. But with a short put, the losses can be more substantial, which I'll explain in a moment.

Second, it's helpful to keep in mind whether you own (or want to own) the stock. As a general rule of thumb, it is less risky to buy a call or put without owning the stock (you can also short without owning the stock, but oftentimes that's a move better left to professional traders), and if your position becomes profitable, you can either close your long option directly or exercise it to buy stock at the strike price of the option you hold.