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Before we start, let's first take a look at how options can help achieve different investment goals.
Thanks to the versatility of options, you can essentially bet on any movement of the market or specific asset. If your prediction is correct, you can make money either the underlying asset goes up or down or even sideways, through options. Aside from versatility, leverage is another attractive feature - a small action in the underlying asset can lead to a much higher reaction in options, where you can gain control over a large chunk of the asset with a relatively small cash outlay. That's why options are sometimes the best weapon for opportunistic speculators.
Another function of options is hedging. Think of it as an insurance policy. One cannot always be right about the future, hence options can be an inexpensive way to protect your investment against downturns.
At SignalPlus, a leading options trading platform for cryptocurrency, our goal is "Democratizing Options for Digital Assets" and we would love everyone to understand and be able to utilize the option as an investment tool. In this article, we would start with the options basics and the building blocks that you need to fully explore the power of options. In the next few chapters, we will provide more advanced details such as option pricing, the definition of Greeks, and comprehensive strategies.
Options are leveraged financial instruments, known as derivatives. Their value is derived from the value of an Underlying Asset such as stocks, cryptocurrency, interest rates, and commodities. In their simplest form, options give the owners the right (but not the obligation) to buy or sell an underlying asset at a specific price on or before a certain date. You can in a way consider owning options like insurance policies to protect the owners from undesired outcomes in future events.
First of all, let's go over some definitions of the options. Don't worry if certain concepts are not crystal clear to you. As we move ahead with detailed examples, they will become more apparent over time.
Owning a call option allows you to buy an underlying asset at a designated price within a certain time frame. The cost you pay to own the contract is called Premium. The designated price is called Exercise Price or Strike Price. And the end date for exercising the option is called Expiration Date.
Note that for a single underlying asset, there can be a handful of options across multiple exercise prices and expiration dates for you to choose from. Each would serve a different purpose and have a different value.
A good way to remember is that: the buyer has the right to “call” the asset away from somebody.
If you sell a call AND if the call buyer decides to exercise their right, you have the obligation to sell the asset at the agreed-upon price within the agreed-upon time frame. Please note that the price of the asset can theoretically go infinitely high, so in this case, you have to buy the asset at an extremely high price and sell it to the counter party much lower, thus incurring a loss as high as infinite. Therefore, for option sellers, it is required to maintain collateral/margin to cover possible extreme losses.
Let's use a quick example to show the scenarios of buying a call option -
On September 1st, when BTC is at $19,900 (underlying price), you bought a call option with a strike price of $20,000 and an expiration date on September 30th for a premium of $1,460.