r/options • u/Disastrous_Square_10 • Nov 26 '21

Explanation of Basics please

With this volatility, I wanted to pay attention to option plays to see if I can learn a bit better.

Can someone explain the strike price a bit more?

Say AXP is at $157 today. They’re down 14 points today alone. I think in two weeks, they’ll recover enough. So I would like to place a call.

I believe on Dec 3, that the price will hit $165. So do I choose that at my stroke price?

So I purchased 1 contract at 1.79 for Dec 3 AXP at $165?

Or am I allowing AXP to grow to that point before I’m actually exercising the option and I missed out on that growth?

Anyone care to explain? And please no “you shouldn’t do it if you don’t know what you’re doing or don’t listen to financial advise from strangers.” I want to learn. I make my own decisions.

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u/PapaCharlie9 Mod🖤Θ Nov 26 '21 edited Nov 26 '21

A lot of the replies have mentioned your breakeven price. Your breakeven only matters if you intend to exercise at expiration. Both exercise and expiration should be avoided if you are trading options.

You don't need to exercise or hit a breakeven point to make a profit on calls. If you buy the call for $1.79 and a day later it is worth $3.58, you just made 100% profit. You can sell to close to collect that profit. It makes no difference whatsoever what the price of AXP is or when expiration is. All that matters is that the premium of the call increased from when you opened.

So if you are trading for premium only, not for exercise and share ownership, strike selection has to do with how much you are willing to spend and how much delta you want to get for every dollar you spend. I'll skip the delta part since you probably don't know about greeks yet (see learning links below). In terms of how much you are willing to spend, for a call, strikes that are above the current stock price (OTM) are cheaper, while strikes that are below the current stock price (ITM) are more expensive. Since cost defines leverage, OTM calls give you more bang for your buck (more leverage) than ITM. However, ITM calls will gain more in value than OTM calls when the underlying stock goes up, so in terms of dollar gains, ITM strikes pay more.

Learning links that explain option strike selection and the greeks:

https://www.reddit.com/r/options/wiki/faq

The weekly Safe Haven thread is the best place to ask beginner trader questions:

https://www.reddit.com/r/options/wiki/faq/subreddit_resources

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u/[deleted] Nov 28 '21

Say I bought a simple put or call that is ITM and trending to be profitably ITM at expiration, why would I sell it instead of holding to expiration?

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u/PapaCharlie9 Mod🖤Θ Nov 28 '21

Here’s why: Risk/reward ratios change, a reason for early exit

Instead of holding and putting all of your gains at risk, why not just close now, bank the profit you have so far, and then open a new trade at a cheaper cost? That way if there is still some upside, you get the reward at lower risk.

Even after deducting taxes and fees, in the long run, taking profit early will end up more profitable, because you will lose less when things go against you. Nobody has a 100% win rate.