Forex Investment and Currency Trading

Options provide you with opportunities to profit from, or hedge against, anticipated movements in the price of an underlying asset by buying or selling call or put options. You may do this by pursuing a number of different strategies. The following possible applications are presented as examples of these.

Speculation on falling interest rates by buying a cal (long call)
In return for payment of a premium, you as the buyer of an interest-rate call acquire the right, but not the obligation, to purchase a particular bond (underlying asset) at a pre-agreed price on a pre-agreed date. You as the buyer anticipate rising prices, i.e. falling interest rates.

Buying a call option (long call)

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Earning additional income by selling a call (short-call)
As the writer (seller) of a call option on shares, you receive a premium for which you assume the obligation to deliver shares of a particular company to the buyer at a pre-agreed price on a pre-agreed date. You anticipate largely unchanged or falling prices. Depending on whether or not you also own the underlying shares, this may be characterized in either of the following two ways:

• Naked call writing (without also owning the underlying shares)

Writing a naked call option (short call)

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• Covered call writing (with ownership of the underlying shares)

Writing a covered call option (ownership of underlying + short call)

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Because the overall position corresponds to a put option in terms of its economic effects, this is also referred to as a “synthetic short put”.

Hedging an existing equity position against a drop in the stock market by buying a put option on the shares (long put)
As the buyer of a put option on shares, you acquire the right, but not the obligation, to sell a pre-agreed number of shares in certain company to the writer of the put option at a pre-agreed price and within a pre-agreed period of time.

Because the overall position corresponds to a put option in terms of its economic effects, this is also referred to as a “synthetic long call”.

Synthetic long call (ownership of underlying + long put)

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Speculating on share prices remaining relatively constant by selling a put option (short put)
In return for a premium which you receive, you as the writer of a put option assume the obligation to purchase a certain number of shares in a company for a pre-agreed price. This strategy is based on the assumption that prices will remain largely unchanged.

Writing a put option (short put)

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Combination strategies
By simultaneously executing several different transactions in combination, you can more precisely adjust your positions according to your market expectations and your own individual willingness to take risk. You must, however, keep all of the risks associated with these in mind. These combination strategies often have special names such as “spreads” or “strangles”.

Bull call spread
A “bull call spread” strategy is based on the expectation that the price of the underlying asset will rise, but only to a limited extent. A bull call spread is created by buying a call and simultaneously selling a call with a higher strike price. Selling the second call acts to offset the cost of the premium for the first call, thus lowering the premium cost of the overall position.

The maximum possible profit is equal to the difference between the strike prices less the net premium paid. You face the maximum loss in the amount of the net premium paid if the price of the underlying asset falls below the lower of the two strike prices and thus both options expire worthless.

Bear call spread

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Bull put spread
The same expectation as that behind the bull call spread may also be realized by selling a put and simultaneously buying a put with a lower strike price. This strategy is referred to as a “bull put spread”. By selling the put with the higher strike price, you as the investor receive more than you pay to buy the put with the lower strike price. This difference between the premium receive on the first option and the premium paid for the second option represents the maximum profit. Your maximum loss is equal to the difference between the two strike prices less the net premium received when opening the position.

Bear put spread

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Bear call spread
In the case of a “bear call spread”, your expectation is that the price of the underlying asset will fall to a limited extent. You sell one call option with a lower strike price and purchase a second call with a higher strike price.

If the price of the underlying asset lies below the lower strike price on the expiry date, you will realize the maximum profit in the amount of the net premium receive. You will face the maximum loss if the price of the underlying asset is higher than the second strike price on the expiry date. This maximum loss is equal to the difference between the strike prices less the net premium received.

Bear call spread

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Bear put spread
If you as the investor anticipate a limited drop in market prices, a strategy which is available to you in addition to the bear call spread is the “bear put spread”. This combination strategy involves buying a put option with a higher strike price and selling a put with a lower strike price.

The maximum profit is realized if the price of the underlying asset lies below the lower strike price on the expiry date. It is the difference between the strike prices less the net premium paid when opening the combined position. If the price of the underlying asset is higher than the strike price on the expiry date, then you incur the maximum loss.

Bear put spread

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Short strangle
In the case of a “short strangle”, your expectation is that the price of the underlying asset will fluctuate within a limited range and with diminishing volatility (a “sideways trend”). You create a short strangle position by simultaneously selling an equal number of calls and put contracts with different strike prices. The strike prices are generally selected such that both the call and put options are out of the money. The total premiums received from the sale of the call and put options represent your maximum profit. However, once the price of the underlying moves beyond the break-even point in either direction (respectively, the strike price of the put minus the total premium received, or the strike price of the call plus the total premium received), you incur a loss which is potentially unlimited din magnitude.

Short strangle

Synthetic long and short positions
Synthetic long and short positions in futures contracts can be created by means of appropriate combinations of options.

• Synthetic long future Example: Purchase of call + sale of put = long future

Synthetic long future (long call + short put = long future)

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• Synthetic short future Example: Purchase of put + sale of call = short future

Synthetic short future (long put + short call = short future)

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