Long Call

[Igor 10]

Traders who use a long call strategy are betting that the market price of the underlying asset will go up. The strategy is one that's implemented most by investors and involves buying a regular call option. Call options carry a premium, which fluctuates during the life of the option. When traders implement a long call strategy, they enter the market at lower costs, which limits their risk and gives them leverage, as the underlying asset appreciates. The most a trader can lose is the amount that he or she pays in premiums. At the same time, there is no limit to how much profit an investor can make, since the potential growth of any underlying asset is infinite.

 

Definition of ATM, ITM and OTM for Calls:

There are three ways to define the relationship between an option's strike price and the market price of its underlying asset. Understanding the differences between the terms is important because the risks involved in implementing a long call strategy depend on these terms at the time of purchase.

 

 

ATM - At The Money: The underlying asset's market price equals the option's strike price.

Example:

- Call Option XYZJan40 (strike price $40)

- XYZ is trading at $40

 

ITM - In The Money: The underlying asset's market price is more than option's strike price.

Example:

- Call Option XYZJan40 (strike price $40)

- XYZ is trading at $50

 

OTM - Out of The Money: The underlying asset's market price is less than option's strike price.

Example:

- Call Option XYZJan40 (strike price $40)

- XYZ is trading at $30

 

How to Implement a Long Call Strategy (ATM):

XYZ is trading at $40 (market price)

1) Option Available: XYZJan40($2)- 100 shares of XYZ stock - Strike Price $40 (ATM), expiring in 30 days- Premium Cost of $2

2) Trader buys 1 call option at $200 (100 x $2 (premium cost)).

 

Result one: XYZ hits $50 (ITM). The call buyer exercises his or her right to buy 100 shares at $40, paying $4000 to the seller and immediately selling the 100 shares at market price for $5000. After subtracting the $200 in premiums paid, the long call strategy results in an $800 profit (20%).

 

Result two: XYZ hits $30 (OTM). The buyer lets the option expire, does not exercise his or her right to buy and loses the amount of premiums paid. In this example, the option buyer would lose $200 (premiums paid).

 

Advantage and Disadvantage of a Long Call Strategy:

 

Pluses: The upside to this type of strategy is that there are no limits to the amount of profit an investor can make. If the underlying asset's market value takes off, the call will grow, and the trader will exercise it before the option expires. Another advantage to the long call strategy is that the cost of entering the market is very low. As a result, the lower buying cost limits a trader's overall risk and adds leverage to the investor's portfolio.

 

Minuses: The downside to implementing a long call strategy is that the investor loses when the value of the option fall OTM. Although, the most an investor can lose is only the amount that he or she paid in premiums to buy the option.

Examples of Implementing a Long Call Strategy