Introduction

This section covers a wide range of commonly used option strategies. They are categorised by the trade motivation into:

• Directional trades
• Volatility trades
• Arbitrage strategies.

Directional trades are entered into by investors with a definite view of the direction the market is likely to take. Bullish traders use strategies that exploit a rising market, whilst bearish traders expect the market to decline.

Volatility trades are utilised by investors with no view on market direction, but an expectation of fluctuations. Trading strategies are chosen depending on how large the fluctuations are anticipated to be.

Arbitrage trades exploit the price discrepancies between the options and the underlying asset price, or between different strategies.

Even though some of the trading strategies appear complex, all can be constructed using four basic option types (long call, short call, long put and short put), some in combination with the sale or purchase of the underlying asset.

Strategies using only one type of trade (a call or a put) are called spreads, whilst those involving both calls and puts are called combinations.

Spreads can be further divided into:

• Horizontal spread, whereby options of the same strike, but different expiry are used
• Vertical spread, using options of the same expiry, but different strike
• Diagonal spread, involving options of different strike and expiry.

A summary of all strategies presented in this section with their motivation is given in the following tables.

Note: The examples of the strategies presented are no reflection of the actual market prices and premiums that could be achieved. They are chosen for ease of graphical representation only.