Options are a type of trade transaction in the course of which a trader has the right to buy/sell assets (without obligation that it will be done) at a predetermined future price or within a specified period of time. The option can be set on the terms of the seller’s repurchase/return of assets by the buyer. This condition imposes a certain responsibility on the parties.
All options are derivative investment instruments and are: bilateral – for sale (Put) and purchase (Call).
Historically, options started in the 1630s. It was during this period that they began to be actively used in the course of commodity and promotional trading – to conclude transactions for the purchase/sale of assets in the future at a predetermined price. And in the usual variant of option trading there is about half a century. Options went public in 1973, when the Chicago Stock Exchange opened. Today, option trading is practiced on all major trading floors.
All options are traded on a monthly basis, and important statistics for them are released weekly, on Mondays.
Options on the stock exchanges and not only
All option contracts can be divided into two categories: stock exchange and over-the-counter contracts. The first category is not much different from futures contracts – the standards for such transactions are set by the exchange, and the parties to the transaction only have to specify the amount of premium that is valid for a particular option. It is the average premium volume (within a trading day) that makes up the quote for options on stock exchanges.
It is important to know that options with different maturities or price levels cannot be the same contracts. At the same time, the exchange takes over the clearing service of contracts, which allows you to fully control the volume of the options market and its movement.
There is a special margin on stock options. Traditionally, it’s paid by a salesman.
In addition, there are non-exchange options traded by agreement between the parties to the transaction. In this case, the contract shall be concluded in accordance with the rules of work with forward contracts. OTC options contracts are most often traded by large investment companies.
There is also a special kind of FLEX options for off-exchange FLEX options that allow you to change strike prices and contract expiration dates.
Within the framework of option trading on Forex, the buyer can purchase the right of inter-currency exchange within the established exchange rate. Traditionally, exporters and importers who have options to hedge their exchange rate risks have taken advantage of this opportunity.
American and European
U.S. and European options differ in timing and exercise options. The European maturity date is set at the time the contract is concluded – it is impossible to execute it ahead of schedule. There are no such restrictions for the U.S., only the period after which the option becomes null and void.
Non-standard or exotic options are also in high demand on the market. Among them are binary, barrier, Asian, range and swaptions.
Options and their features
For each option, five evaluation criteria are relevant:
- the asset underlying the option;
- the contract price;
- the type of contract is to buy or sell;
- the amount of the premium established under the option;
- expiration/execution terms of the option.
In fact, the option market does not involve the acquisition of assets as an object of trade. It only allows you to purchase the rights to receive such an opportunity on certain terms (at a given price or within a specified period of time).
The exercise price of an option is the fixed point of the contract, which ensures its exercise at a certain fixed value of the financial instrument used under the option.
The date of completion/execution of the option contract sets the time frame within which it is to be executed. At the end of these terms, the option must be redeemed, otherwise the investor loses the opportunity to close it and make a profit
The Option Premium forms the amount of profit that a trader receives when selling an option or when buying it. It may vary in size depending on the duration of options and the value of the investment instrument on which it is based.
Forex Options: Secrets of Trading
The simplest scheme of option trading on Forex is “vanilla” or standard options. In this case, the trader buys an option to buy or sell. Usually it is an outright position, which does not imply contract coverage.
Spread trades are another popular type of options on Forex. Debit spreads are distinguished – in this case the deal is opened in a certain market direction taking into account the chosen level of restrictions that allow minimizing risks. There is also a credit spread. In this case, the profit is obtained not from the amount of the premium, but from the spread. It is important to predict the market movement as accurately as possible, because any deviation from the “rate” can lead to the loss of funds.
The straddle strategy on options is focused on a calm market, in which breakdowns and minor price fluctuations can be used to make profit. In this case, the tactics of opening two differently directed deals (buy and sell at the same time) is applied, allowing to achieve success in any changes in the trading situation.