The terms “call option” and “put option” are key to options trading and stock market strategy. Thus, it is important to fully understand the chief similarities and differences between the two options. With that said, the following covers call vs. put options.
A pact between two parties agreeing to conduct a prospective transaction involving an asset at a preset amount and date is referred to as an options contract. The value of such contract is based on the underlying asset, usually a publicly traded financial instrument such as a stock or exchange-traded fund. The two primary types of options are “call” and “put.”
Generally, such an agreement involves a:
With a call option, the buyer has the right – but not the obligation – to purchase the underlying asset at a price certain before it expires.
A put option gives the buyer the right to sell an underlying asset at a specified strike price before the option expires. As with call options, the buyer is not obliged to act.
The various types of call options include:
Common investment approaches for puts include:
Both the call vs put option give investors the right to buy and sell stock shares at a set price during a certain period. With both, investors have rights sans obligations.
While call options give the holder the right to buy shares, put options provide the right to sell shares.
With call options, the seller will have unlimited risk while the option seller in put options has limited risk.
The buyer in call options has limited risk. An options buyer in put options has limited risk.
Say an investor thinks the price of ABC stock will increase in a year, but they are uncertain whether the price, currently at $30 per share, will first decrease. Because of their uncertainty, they buy a call option that expires in a year and has a per-share strike price of $32. Because the premium is $0.50, an options contract will cost $50 ($0.50 multiplied by 100 shares).
Purchase of the call option contract gives the investor the right to buy ABC at $32 per share before it expires. The investor will only do so if they can profit – if the share reaches the breakeven point of $32.51 per share. If the stock does not trade at that price prior to expiration, they will lose their $50 premium.
Now, if ABC trades at $35 per share before expiration, and the investor exercises their call option to buy at $32 per share, the profit would be $35 minus $32 multiplied by 100 shares minus $50. That comes to $250.
Say an investor thinks the price of XYZ stock, currently at $20 per share, will fall in a year. Thus, the investor decides to buy a put option at a strike price of $18 per share that expires in a year. Because the premium is $0.45, the investor must pay $45 for one option contract.
While the investor has the right to sell XYZ at $18 per share before it expires, they will only do so if the price reaches $17.54 per share. The breakeven price is $17.55. To make a profit, the price of XYZ must be $17.54 or under. If such pricing does not happen before the stock expires, the $45 premium will be lost.
However, if the stock trades at $15 per before it expires, and the put option to sell XYZ at $18 per share is exercised, the profit would be $18 minus $15 times 100 shares, minus $45. That comes to $255.
Here is a look at risks for call vs. put options.
Call Option Risks
Put Option Risks
Call Option Rewards
Put Option Rewards
Basically, options trading requires correct prediction of the direction and amount the stock will move, as well as the time period such movement will occur.
Given the risks involved with options trading, and a stock market that is intrinsically volatile, it may be wise to explore investments other than stocks and bonds. Investing in “alternatives” such as real estate, art, venture capital, and collectibles can help diversify one’s portfolio while protecting against inflation and generating steady returns.
Traditional portfolio asset allocation envisages a 60% public stock and 40% fixed income allocation. However, a more balanced 60/20/20 or 50/30/20 split, incorporating alternative assets, may make a portfolio less sensitive to public market short-term swings.
Real estate, private equity, venture capital, digital assets, precious metals and collectibles are among the asset classes deemed “alternative investments.” Broadly speaking, such investments tend to be less connected to public equity, and thus offer potential for diversification. Of course, like traditional investments, it is important to remember that alternatives also entail a degree of risk.
In some cases, this risk can be greater than that of traditional investments. This is why these asset classes were traditionally accessible only to an exclusive base of wealthy individuals and institutional investors buying in at very high minimums — often between $500,000 and $1 million. These people were considered to be more capable of weathering losses of that magnitude, should the investments underperform. However, that meant the potentially exceptional gains these investments presented were also limited to these groups.
To democratize these opportunities, Yieldstreet has opened a number of carefully curated alternative investment strategies to all investors. While the risk is still there, the company offers help in capitalizing on areas such as real estate, legal finance, art finance and structured notes — as well as a wide range of other unique alternative investments.
Learn more about the ways Yieldstreet can help diversify and grow portfolios.
Strategy-wise, it is important for investors to have a full understanding of call vs. put options, including their risks and benefits. It is also important, particularly in this uncertain economy, to understand investment options with limited correlation to the stock market.
Yieldstreet provides access to alternative investments previously reserved only for institutions and the ultra-wealthy. Our mission is to help millions of people generate $3 billion of income outside the traditional public markets by 2025. We are committed to making financial products more inclusive by creating a modern investment portfolio.