If you’re bullish on a particular security but don’t have a lot of capital to invest, a long call option strategy might be the best way for you to make that investment. Long call options use leverage, allowing you to gain control over a larger number of shares for less than you could at the security’s market price.
Here’s a more detailed look at what this means and how to get started putting this investment strategy to use for you.
What Is a Long Call Option?
A long call option is a contract you enter that gives you the right, but not the obligation, to buy an underlying asset at a preset price known as the strike price. Effectively, the contract, which represents 100 shares of the security, is between two investors: you agree to buy the underlying security, and another investor agrees to sell the security — a stock, bond, commodity or some other asset.
The contract lays out the price at which the security may be bought and sold before the specified time the contract expires.
With a long call option strategy, you are betting the price of the security will rise before the expiry date. So you agree to buy it at a price you believe will be below where the price settles.
If the price increases above your strike price, you can purchase the security for less than its market price. You also could sell shares of the security you own at the higher market price and then buy back shares at your strike price.
Because of the leverage — the small cost you pay for the long call option, the premium, compared to the cost to obtain the same number of shares at market price — you can realize a significant percentage gain.
A long call option strategy gives you the potential for unlimited gains and limits your loss to your premium.
An Example of a Long Call Option Strategy
A long call option quote might look like this: Long ABC Sep $60 call @ $2.20. You estimate ABC’s stock price will rise above $60, the strike price, so you buy the ABC Sep $60 call at the premium of $2.20. For one contract, that’s $220 (100 shares at $2.20 each, totaling $220). If the stock price rises above $60, that puts you “in the money.” However, you would need the stock price to increase to $62.20 to break even.
If by the second week of September, ABC’s stock has risen to $70, the value of your call option has increased to $10.20, which means your option is now worth $1,020 (100 shares at $10.20 each, totaling $1020).
Now, you can sell your call option and pocket the $800 difference between the premium you paid ($220) and the current value of your premium ($1020) or you can exercise your option and buy the underlying stock at $60, realizing the $10 per share appreciation.
How to Buy a Call Option
Using the long call option strategy, you can profit from a security growing without committing a large capital investment and with reduced risk. Here are steps to follow to buy call options:
- Locate an options broker.
- Open an account.
- Fund your account.
- Research securities.
- Select the best option for you.
- Enter your options order.
Options are often the domain of more experienced investors. However, a call option strategy is often the first foray beginners make into options trading.
Consider Kicking Off a Long Call Option Strategy
With a long call option strategy, you can be bullish on a security, taking advantage of appreciation without very much money at stake. You can control a large number of shares at a fraction of the market price. As with any leveraged investment, losses can come as fast as gains — but in this case it’s limited to what you spent on your premium.
On the date of publication, Sarah Edwards did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
On the date of publication, the responsible editor did not have (either directly or indirectly) any positions in the securities mentioned in this article.
