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http://www.optiontradingtips.com/strategies/short-call-option.html \

Option Strategies
Generally, an Option Strategy involves the simultaneous purchase and/or sale of different option contracts, also known as an Option Combination. I say generally because there are such a wide variety of option strategies that use multiple legs as their structure, however, even a one legged Long Call Option can be viewed as an option strategy. Under the Options101 link, you may have noticed that the option examples provided have only looked at taking one option trade at a time. That is, if a trader thought that Coca Cola's share price was going to increase over the next month a simple way to profit from this move while limiting his/her risk is to buy a call option. Of course, s/he could also sell a put option. But what if s/he bought a call and a put option at the same strike price in the same expiry month? How could a trader profit from such a scenario? Let's take a look at this option combination;

In this example, imagine you bought (long) 1 $65 July call option and also bought 1 $65 July put option. With the underlying trading at $65, the call costs you $2.88 and the put costs $2.88 also. Now, when you're the option buyer (or going long) you can't lose more than your initial investment. So, you've outlaid a total of $5.76, which is you're maximum loss if all else goes wrong. But what happens if the market rallies? The put option becomes less valuable as the market trades higher because you bought an option that gives you the right to sell the asset - meaning for a long put you want the market to go down. You can look at a long put diagram here. However, the call option becomes infinitely valuable as the market trades higher. So, after you break away from your break even point your position has unlimited profit potential. The same situation occurs if the market sells off. The call becomes worthless as trades below $67.88 (strike of $65 minus what you paid for it - $2.88), however, the put option becomes increasingly profitable. If the market trades down 10%, and at expiry, closes at $58.50, then your option position is worth $0.74. You lose the total value of the call, which cost $2.88, however, the put option has expired in the money and is worth $6.5. Subtract from this to total amount paid for the position, $5.76 and now the position is worth 0.74. This means that you will exercise your right and take possession of the underlying asset at the strike price. This means that you will effectively be short the underlying shares at $65. With the current price in the market trading at $58.50, you can buy back the shares and make an instant $6.50 per share for a total net profit of $0.74 per share. That might not sound like much, but consider what your return on investment is. You outlaid a total $5.76 and made $0.74 in a two month period. That's a 12.85% return in a two month period with a known maximum risk and unlimited profit potential. This is just one example of an option combination. There are many different ways that you can combine option contracts together, and also with the underlying asset, to customize your risk/reward profile. You've probably realized by now that buying and selling options requires more than just a view on the market direction of the underlying asset. You also need to understand and make a decision on what you think will happen to the underlying asset's volatility. Or more importantly, what will happen to the implied volatility of the options themselves.

If the market price of an option contract implies that it is 50% more expensive than the historical prices for the same characteristics, then you may decide against buying into this option and hence make a move to sell it instead. But how can you tell if an options implied volatility is historically high? Well, the only tool that I know of that does this well is the Volcone Analyzer . It analyzes any option contract and compares it against the historical averages, while providing a graphical representation of the price movements through time - know as the Volatility Cone. A great tool to use for price comparisons. Anyway, for further ideas on option combinations, take a look at the list to the left and see what strategy is right for you.

Long Call

Components
A long call is simply the purchase of one call option.

Risk / Reward
Maximum Loss: Limited to the premium paid up front for the option.

Maximum Gain: Unlimited as the market rallies.

Characteristics
When to use: When you are bullish on market direction and also bullish on market volatility. A long call option is the simplest way to benefit if you believe that the market will make an upward move and is the most common choice among first time investors. Being long a call option means that you will benefit if the stock/future rallies, however, your risk is limited on the downside if the market makes a correction. From the above graph you can see that if the stock/future is below the strike price at expiration, your only loss will be the premium paid for the option. Even if the stock goes into liquidation, you will never lose more than the option premium that you paid initially at the trade date. Not only will your losses be limited on the downside, you will still benefit infinitely if the market stages a strong rally. A long call has unlimited profit potential on the upside.

Short Call

Components
A short call is simply the sale of one call option. Selling options is also known as "writing" an option.

Risk / Reward
Maximum Loss: Unlimited as the market rises. Maximum Gain: Limited to the premium received for selling the option.

Characteristics
When to use: When you are bearish on market direction and also bearish on market volatility. A short is also known as a Naked Call. Naked calls are considered very risky positions because your risk is unlimited.

Short Put

Components
A short put is simply the sale of a put option.

Risk / Reward
Maximum Loss: Unlimited in a falling market. Maximum Gain: Limited to the premium received for selling the put option.

Characteristics
When to use: When you are bullish on market direction and bearish on market volatility. Like the Short Call Option, selling naked puts can be a very risky strategy as your losses are unlimited in a falling market. Although selling puts carries the potential for unlimited losses on the downside they are a great way to position yourself to buy stock when it becomes "cheap". Selling a put option is another way of saying "I would buy this stock for [strike] price if it were to trade there by [expiration] date." A short put locks in the purchase price of a stock at the strike price. Plus you will keep any premium received as a result of the trade.

For example, say AAPL is trading at $98.25. You want to buy this stock buy think it could come off a bit in the next couple of weeks. You say to yourself "if AAPL sells off to $90 in two weeks I will buy." At the time of writing this the $90 November put option (Nov 21) is trading at $2.37. You sell the put option and receive $237 for the trade and have now locked in a purchase price of $90 if AAPL trades that low in the 10 or so days until expiration. Plus you get to keep the $237 no matter what.

Long Put

Components
A long put is simply the purchase of one put option.

Risk / Reward
Maximum Loss: Limited to the net premium paid for the option. Maximum Gain: Unlimited as the market sells off.

Characteristics
When to use: When you are bearish on market direction and bullish on market volatility.

Like the long call a long put is a nice simple way to take a position on market direction without risking everything. Except with a put option you want the market to decrease in value. Buying put options is a fantastic way to profit from a down turning market without shorting stock. Even though both methods will make money if the market sells off, buying put options can do this with limited risk.

Long Synthetic

Components
Buy one call option and sell one put option at the same strike price.

Risk / Reward
Maximum Loss:Unlimited. Maximum Gain: Unlimited.

Characteristics
When to use: When you are bullish on market direction. Long Synthetic behaves exactly the same as being long the underlying security. You can use long synthetic's when you want the same payoff characteristics as holding a stock or futures contract. It has the benefit of being much cheaper than buying stock outright.

Short Synthetic

Components
Short one call option and long one put option at the same strike price.

Risk / Reward
Maximum Loss:Unlimited. Maximum Gain: Unlimited.

Characteristics
When to use: When you are bearish on market direction. A Short Synthetic is just the reverse of the Long Synthetic i.e. this option combination behaves exactly the same way as being short the underlying security. So, if you are very bearish on an asset and want the same characteristics as if you were short the asset then you might want to consider using a Short Synthetic.