An “option” is a financial contract, which enables but does not oblige someone, to buy or sell a specific stock or currency before a specified time in the future at a fixed price. The price is normally set when the option is purchased. The value, of a buy option commonly known as a call option, increases as the stock price it relates to rises and similarly the value, of a selling option commonly known as a put option, increases as the relative stock price falls. If the option is a call option then the buyer can decide if the sale of the stock should take place and if the option is a put option then the seller makes the decision.
Options are derivatives, which means that their price is derived from the stock that the option is relative to.
Traders and investors use options trading to gain a higher profit on the relative stock and to limit any risk. They employ various option strategies to enable them to profit from the way they think a certain stock will perform. These strategies generally fall into 5 categories.
A bullish option strategy is one to use if you think the stock will rise.
A bearish option strategy would be used if you think the stock will fall.
A volatile option strategy would be employed if you think the stock will rise or fall dramatically. This strategy is particularly useful when although the stock is expected to move it is unsure in which direction. This situation is commonly known as volatile stock or volatile market giving the strategy the name volatile option strategy.
A neutral option strategy would be used if you think the stock will remain at the same price or as with some neutral option strategies within a specific price range, which is predetermined.
Option arbitrage strategy would be used if you see a price discrepancy. These discrepancies happen very rarely and are normally only picked up by options traders who have specialised software that is monitoring the market.
By using options trading, investors and traders alike are speculating and hedging the risk. Whenever we buy stock we are speculating because nobody knows with complete certainty what a particular stock is going to do and we all know that there is a degree of risk with any investment. By using options you are hedging the risk, that is, protecting yourself against unknown circumstances.