The right investment strategy can lead you to a financially secure life. If done right, investments not only grow your money but also become your second source of income.
To make the most of your investments, you may want to diversify your income among different asset classes. You may pick several options as per your requirements. Stocks, bonds, real estate, commodities and cryptocurrencies are some such examples.
You may have heard about one more asset class - call and put options. They may seem confusing due to the technicalities, but they offer several advantages over stocks. Read on to know more about call and put options
What are options?
Options allow you to buy or sell a specified number of stocks at a pre-determined price within a set period. It is a contract between you and the seller. You get the right to exercise your option, but there is no obligation to do so. You have to pay a premium to gain this right. You can purchase options from any verified broker offering a brokerage investment account.
Options are derivatives, which means they derive their value from another underlying product like stocks.
They offer several benefits and are designed to suit your financial goals. They can generate a recurring income or can be used to hedge against a declining stock market.
They can be a star addition to your portfolio, but they are speculative in nature and hence carry specific risks. You may want to invest in options only if you have the capital to absorb the losses. You can decide if speculation is not for you if you are not comfortable with risk. However, it is a good idea to understand options to know how the companies that you invest in are using them.
What are call and put options?
A call option allows the buyer to buy the underlying instrument at the strike price before the option expires. It is based on the speculation that a stock price will fall and then increase considerably. You can exercise your option and purchase the stock when it is trading at your strike price. Later you can sell it at a higher price to make a profit.
A put option gives you the right to sell at the strike price. Buyers of put options speculate that the stock price will fall before the option expires. When it does, they sell their stocks and make profits.
The strike price is the price at which the stock must be bought or sold. It is a pre-determined rate, which the stock must pass for call options or go below for put options. On the expiry date, the seller will exercise your choice if it is favourable.
You get three alternatives when deciding call and put options – ‘In the Money’, ‘At the Money’ or ‘Out of the Money’. ‘In the Money’ means, the stock price is above the call strike price. ‘Out of the Money’ means, the stock price is below the call strike price while ‘At the Money’ is when both the prices are the same.
Call and Put options can provide you with an advantage and hedge you against risks. However, they are based on complex short-term strategies. They are good investment instruments if you can handle the risk potential.