There are a few simple options strategies – simple for options at least – that can be used to limit potential losses while still allowing for upside potential.
Take a look at these seven.
- Covered Call: This strategy involves owning the underlying stock and selling a call option against it. The call option provides some upside potential, but it limits your losses because the premium you receive from selling the call option can offset any potential decline in the stock’s value. The downside is that you may have to sell the stock if the call option is exercised.
- Protective Put: This strategy involves owning the underlying stock and buying a put option. The put option gives you the right to sell the stock at a predetermined price (the strike price) regardless of how far the stock’s price may fall. This limits your potential losses while allowing for unlimited upside potential.
- Collar: A collar strategy involves owning the underlying stock, selling a call option (limiting upside potential) and using the premium from the call to buy a put option (limiting downside risk). This strategy effectively caps your potential gains and losses within a certain range.
- Bull Put Spread: This strategy involves selling a put option with a higher strike price and simultaneously buying a put option with a lower strike price. It’s a credit spread strategy that limits both potential gains and losses. It’s often used when you have a moderately bullish outlook on a stock.
- Bull Call Spread: This strategy involves buying a call option with a lower strike price and simultaneously selling a call option with a higher strike price. It’s a debit spread strategy that limits potential losses while still allowing for some upside potential. This is used when you have a moderately bullish outlook.
- Long Call or Long Put: These are simple strategies where you buy a call option if you’re bullish on a stock or buy a put option if you’re bearish. Your potential losses are limited to the premium you paid for the option, while your upside potential is unlimited (for long calls) or limited to the stock’s decline (for long puts).
- Ratio Spread: This strategy involves buying and selling options in a specific ratio to create a position that limits potential losses while still allowing for significant upside. For example, you might buy two calls and sell one call with a higher strike price.
It’s important to note that options trading carries risks, and these strategies do not eliminate all potential losses. They are designed to manage risk, but there is no strategy that completely eliminates risk. It’s essential to understand the mechanics of options and have a clear strategy in mind before engaging in options trading.
Additionally, consider using options in a way that aligns with your overall investment goals and risk tolerance. Consulting with a financial advisor or options expert is also a wise choice if you are new to options trading.