It is important that you understand how call options work before moving into more complex option definitions and advanced trading strategies.
A Call gives the holder the right, but not the obligation, to buy at an agreed upon price up until expiry.
The agreed sell/buy price available to an option holder is called the strike rate. An option buyer will benefit if the strike rate can beat the market! If you are holding a Call option, the strike will become more attractive as the market rises.
Let’s look at a scenario where the buyer (holder) of an option on the EUR/USD might buy a call option expiry in 7 days for the premium of 160 USD assuming the current strike price of the call option is at 1.2500.
It is important to note that the premium of a buy Call trade increases as the market rises. Why? Because the Call's strike rate becomes more attractive relative to the market rate.
For now, let’s look at two possible results for the buyer in the above scenario:
1. The market price for the EUR/USD goes above 1.2540 (break-even point) before 7 days expire: The buyer will sell the option at a higher premium and profit from the difference. If on expiry the rate is 1.2700, they make a profit from the difference between the cash flow at expiry and the premium at open equaling 300 USD, as seen below. Alternately, if you are the seller (writer) of the option in this case, you have lost 300 USD.
2. The market price does not go above 1.2540: The buyer is not going to exercise their option as option’s buyers have the right, but not the obligation, to exercise their options. So, even though the option buyer bought the option, they never have to exercise it! This means the buyer is out the value of the option premium and the seller gains the value of the option premium, in this case 160 USD. Unlike with the direct purchase of an underlying asset, options buyers are only obligated for paying the premium amount not the cost of the underlying asset until they exercise their options.
In the next lesson, I will explain in more detail buying Put options.
The content provided is made available to you by ORE Tech Ltd for educational purposes only, and does not constitute any recommendation and/or proposal regarding the performance and/or avoidance of any transaction (whether financial or not), and does not provide or intend to provide any basis of assumption and/or reliance to any such transaction.
Editors’ Picks
EUR/USD hits two-day highs near 1.1820
EUR/USD picks up pace and reaches two-day tops around 1.1820 at the end of the week. The pair’s move higher comes on the back of renewed weakness in the US Dollar amid growing talk that the Fed could deliver an interest rate cut as early as March. On the docket, the flash US Consumer Sentiment improves to 57.3 in February.
GBP/USD reclaims 1.3600 and above
GBP/USD reverses two straight days of losses, surpassing the key 1.3600 yardstick on Friday. Cable’s rebound comes as the Greenback slips away from two-week highs in response to some profit-taking mood and speculation of Fed rate cuts. In addition, hawkish comments from the BoE’s Pill are also collaborating with the quid’s improvement.
USD/JPY drops back below 157.00, as focus shifts to Japan snap election
USD/JPY is back in the red below 157.00 in the Asian session on Friday. The Japanese Yen recovers ground against the US Dollar amid some profit-taking ahead of Japan's snap general election on Sunday. The preliminary reading of the Michigan Consumer Sentiment Index report for February will be released later on Friday.
Editors’ Picks
EUR/USD: US Dollar to remain pressured until uncertainty fog dissipates Premium
The EUR/USD pair lost additional ground in the first week of February, settling at around 1.1820. The reversal lost momentum after the pair peaked at 1.2082 in January, its highest since mid-2021.
Gold: Volatility persists in commodity space Premium
After losing more than 8% to end the previous week, Gold (XAU/USD) remained under heavy selling pressure on Monday and dropped toward $4,400. Although XAU/USD staged a decisive rebound afterward, it failed to stabilize above $5,000.
GBP/USD: Pound Sterling tests key support ahead of a big week Premium
The Pound Sterling (GBP) changed course against the US Dollar (USD), with GBP/USD giving up nearly 200 pips in a dramatic correction.
Bitcoin: The worst may be behind us
Bitcoin (BTC) price recovers slightly, trading at $65,000 at the time of writing on Friday, after reaching a low of $60,000 during the early Asian trading session. The Crypto King remained under pressure so far this week, posting three consecutive weeks of losses exceeding 30%.
Three scenarios for Japanese Yen ahead of snap election Premium
The latest polls point to a dominant win for the ruling bloc at the upcoming Japanese snap election. The larger Sanae Takaichi’s mandate, the more investors fear faster implementation of tax cuts and spending plans.
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