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Basic Option Strategies: Long Call Strategy (Part 1)

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In this article we will discuss about basic option strategies. Like a warrior preparing for a battle, a good strategy will help you to win (and gain a handsome profit in options trading in your case).

As you will have learned from our first article on option trading titled OPTION: The Basics of Option and Option Trading, there are four basic option strategies that highlight the entire option trading knowledge – one strategy for each type of option orders.

These strategies are:

(a) Long Call (For call buyer)
(b) Short Call (For call seller)
(c) Long Put (For put buyer)
(d) Short Put (For put seller).

Each term is actually a command. For example, the term “long put” is actually a short command to mean “buy put option contract”.

About Long Call Strategy

Long call means to buy one (or more) call option. This strategy is most popular with option trading beginners as it is simpler to understand. Options traders use long call strategy when they believe the price of the underlying asset will rise significantly beyond the strike price before the option expiration date (American-style) or at the expiration date (European-style). It means that you will benefit if the underlying asset rallies. However, your risk is limited to the downside if the market makes a correction.

The calculation formula for long call strategy is as follows:

[(Market Price at Expiration − Strike Price) × (Contract Size)] + Premium Paid

As an example, we illustrate this strategy using a chart (see below). From the chart, you can see that if the underlying asset is below the strike price at expiration date, your only loss will be the premium paid for the option. We have also illustrated the profit and loss assumptions for different market prices at the expiration date.

Long Call Option Strategy

DETAILS ASSUMPTION
Option Product FBM KLCI Index Option (OKLI)
Underlying Asset FBM KLCI futures (FKLI)
Current Market Price E.g. ≤ RM 1,600
Strategy Buy 1 Lot of OKLI at RM 1,600 (The Strike Price)
Call Option at RM20 (The Premium)
(Out-of-the-money)
Premium = Premium Paid x Contract Size
= RM20 x 50
= RM 1,000
Breakeven Point RM 1,620

IF MARKET PRICE AT EXPIRATION IS: PROFIT/LOSS ASSUMPTION
1660 = [(RM 1,660 – RM 1,600) x 50] – RM 1,000
= RM 3,000 – RM 1,000
= RM 2,000 (Net Profit Earned)
1620 = [(RM 1,620 – RM 1,600) x 50] – RM 1,000
= RM 1,000 – RM 1,000
= RM 0 (No Gain or Loss)
< 1600 * If Market Price at Expiration is below RM 1,600, the maximum a buyer can lose is only the premium paid for the call option.

 

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This article is contributed by Wan Zuraiha Zakaria and Jeremy Lim, both of whom are staff writers at Oriental Pacific Futures (OPF). OPF is a futures and options broker based in Kuala Lumpur, Malaysia and provides electronic trading, brokerage and clearing services to retail and institutional traders since 2007. OPF is licensed under the Securities Commissions of Malaysia and offers cash-settled derivatives instruments traded on Bursa Malaysia, as well as select major derivatives exchanges around the world.

Oriental Pacific Futures articles published on the Corporate Website (www.opf.com.my) may be reprinted, reposted or distributed free for educational purposes only on the condition that Oriental Pacific Futures and the Corporate Website link information http://www.opf.com.my are included. However, other organizations are invited to link to articles that are available in the public area of the Oriental Pacific Futures’ Learning Resources website. No additional permission is needed for such a link.

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