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Lesson 1:

The 4 Basic Strategies

Lesson 1: The 4 Basic Strategies

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The 4 Basic Strategies

The above chart shows the four basic option strategies – these are called single-leg options strategies. All other multi-legged, more complex strategies are simply made up of a combination of some or all of these four individual legs -- which is why it is so important to understand these strategies.

To construct this ‘T’ chart place calls on the left and puts on the right. Bearish strategies are found in the bottom half and bullish on the top half. This chart mirrors each individual leg. Essentially, if you master long calls, you can use the chart combined with logic to clarify the rest.

Lesson 1: The 4 Basic Strategies

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Buyers of options can execute upon the terms of the contract. Therefore, a long call gives the holder of the call option the right, but not the obligation to buy shares of the underlying security on, or before, the expiration date. This right is purchased for a premium creating a long call. The contract owner wants the contract to contain value, as this contains the right to buy, a long call is bullish.

Lesson 1: The 4 Basic Strategies

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Sellers are obligated to fulfil the terms of the contract. Therefore, the seller of a call option is obligated to sell 100 shares of the underlying should the call buyer exercise the call option on or before the expiration date. This obligation is sold for a premium creating a short call. The seller of the contract does not want the option to contain any value, as this contains the right to buy, a short call is neutral to bearish.

Lesson 1: The 4 Basic Strategies

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Buyers of options can execute upon the terms of the contract. Therefore, a long put gives the holder of the put option the right, but not the obligation to sell shares of the underlying security on, or before, the expiration date. This right is purchased for a premium creating a long put. The contract owner wants the contract to contain value, as a put contains the right to sell, a long put is bearish.

Lesson 1: The 4 Basic Strategies

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Short means sold, and put means contains the right to sell. Sellers are obligated to fulfil the terms of the contract. Therefore, the seller of a put option is obligated to purchase shares of the underlying should the put buyer exercise the put option on or before the expiration date. This obligation is sold for a premium creating a short put. The seller of the contract does not want the option to contain any value, as this contains the right to sell, a short put is neutral to bullish.

Bullish strategies are found at the top of the t-chart and bearish strategies at the bottom. Sold options are neutral with a slight directional bias and purchased options are expecting a sharp directional move in your desired direction. The desired direction is determined based on if the contract is issued as a call or a put.

The next lessons will cover each of the basic strategies in more detail.

Lesson 1: The 4 Basic Strategies

Key Takeaways

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1. A 'T' chart helps visualize these strategies: calls on the left, puts on the right, bullish strategies on top, and bearish strategies on the bottom

2. Long calls are bullish and involve buying the right to purchase the underlying asset at a specific price. It is a bet on the stock's price increase

3. Short calls are neutral to bearish and create the obligation to sell. Sellers of short calls hope the stock price doesn't increase above the strike price

4. Long puts are bearish and involve buying the right to sell the underlying asset. Buyers of long puts anticipate a decline in the stock's price

5. Short puts are neutral to bullish and create the obligation to buy. Sellers of short puts prefer the stock price to stay above the strike price.

Click “NEXT” to check your knowledge

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Lesson 1:

Knowledge Check

Lesson 1: The 4 Basic Strategies

Knowledge Check

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True or false:

Sold options expect a sharp directional move in their directional bias.

(Select an answer below)

Lesson 1: The 4 Basic Strategies

Knowledge Check

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Purchased options are also referred to as:

(Select an answer below)

Lesson 1: The 4 Basic Strategies

Knowledge Check

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True or false:

Purchased options contain execution rights.

(Select an answer below)

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Congratulations!

You have completed The Framework - Lesson 1:

The 4 Basic Strategies

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