Exploring the Different Types of Options Trading Strategies

In this article, we will discuss

• The Different Types of Options Trading Strategies
• Options Trading Strategies Based on the Spread
• Options Trading Strategies Based on the Goal
• Options Trading Strategies Based on the Market Outlook
• Conclusion

Options trading can be complex for various reasons. Top among these is the sheer number of options trading strategies to choose from. For traders with the Samco trading app, this becomes easier, thanks to Options B.R.O. — an advanced trading strategy builder that helps you find the best possible strategy for any given market condition.

However, to make an informed choice even with Options B.R.O., you need to know what the different types of options trading strategies are. This way, you can select the best option strategy from the recommendations offered.

You may be familiar with the names of many trading strategies like the covered call, bull put spread, iron condor and more. However, these strategies all belong to different categories, as you’ll see in this article.

The Different Types of Options Trading Strategies

Option strategies can be categorised based on various parameters. You can group them together based on their goal and market outlook, the way the trades are spread and even the risk category they belong to. Some traders may classify strategies based on the types of options used while others may group them as simple and complex strategies. You can even have different types of options trading strategies based on the premium debit or credit available at the outset.

Two of the most common ways to classify options trading setups include goal-based and spread-based categorisation. Let us delve into these details.

Options Trading Strategies Based on the Spread

In options trading, a spread is simply a difference or a gap. The difference can occur in many ways. Depending on how the option contracts used in a trade vary, we have three kinds of spreads.

• Vertical Spreads

A vertical spread relies on the strike price difference between different options contracts. This type of options trading strategy involves buying and/or selling options with the same expiry and underlying asset — but different strike prices. These strategies aim to profit from the difference in premiums between the two or more strike prices.

Vertical spreads can be bullish (like the debit call spread and credit put spread) or bearish (like the debit put spread and credit call spread). By purchasing and selling options with different strike prices simultaneously, you can limit your risk. However, the profit potential may also be limited.

Examples of vertical spreads: Bull call spread, bear put spread, bull put spread and bear call spread

• Horizontal Spreads

Also known as time spreads or calendar spreads, these strategies require you to buy or sell options that have the same underlying asset and strike price but expire on different dates. Since the options have different expiries, their time decay also varies.

The main aim of a horizontal spread strategy is to help you profit from this difference in time decay. Ideally, you may go long on longer-term options and short nearer-term options because the latter has a faster time decay that could work to your advantage as a seller.

Examples of horizontal spreads: Long call calendar spread, long put calendar spread, short call calendar spread and short put calendar spread

• Diagonal Spreads

Diagonal spreads are options trading strategies that combine elements of both horizontal and vertical spreads. They may involve purchasing and writing options with the same underlying asset — but with different expiries and strike prices.

You can rely on diagonal spread strategies to profit from two key aspects — namely, time decay and any changes in the price of the underlying asset. The difference in expiries helps you capitalise on the former, while the different strike prices help you leverage the latter. You can create diagonal spreads that align with your market outlook and risk tolerance.

Examples of diagonal spreads: Long call diagonal spread, long put diagonal spread, short call diagonal spread and short put diagonal spread

Options Trading Strategies Based on the Goal

Options trading strategies can also be categorised on their goals. You may expect that profit generation is the primary goal of options trading. However, there are various other objectives that the best option strategies help fulfil.

• Income Generation

With these strategies, you sell options to collect premiums as income. The goal of these strategies is to generate a stream of income while also possibly owning the underlying asset at a discounted price.

Covered calls, for instance, are implemented by selling call options against existing long positions in the underlying asset. With cash-secured puts, you write put options while ensuring you have enough cash to buy the underlying asset if assigned. Both strategies limit upside potential in exchange for immediate premium income.

You should be aware that income generation strategies carry risks — like the potential for the underlying asset to be called away (covered calls) or the obligation to purchase the asset at a higher price (cash-secured puts).

• Hedging

Hedging strategies like protective puts and collars are employed to mitigate potential losses on existing positions. By purchasing put options or creating a combination of puts and calls, you can limit your downside risk.

Protective puts involve buying put options to protect long positions in the underlying asset. If the asset's price falls, the put options increase in value, offsetting some or all of the losses. Collars combine a protective put with a short call, so you need to give up some upside potential to reduce the cost of the hedge.

Hedging strategies can be particularly useful during periods of market uncertainty or when you have significant unrealised gains that you wish to protect. However, it is important to note that hedging strategies come at a cost — which can impact your overall returns.

• Speculation

Speculative strategies like long calls, long puts and straddles are used when you expect significant price movements in the underlying asset. These strategies can provide decent profits if your market outlook proves correct.

In long calls and puts, you buy call or put options respectively to profit from expected price increases or decreases. Straddles, on the other hand, combine long calls and puts with the same strike price and expiration date — so you may profit from significant price movements in either direction.

However, speculation strategies also carry a high risk of loss if the market moves against your position or if the anticipated price movement does not occur before the options expire. The timing and magnitude of price movements are critical for the success of these strategies.

Options Trading Strategies Based on the Market Outlook

Your market outlook is another crucial factor that can determine the type of options trading strategy. Here is how this classification works.

• Bullish Strategies: Aim to profit when the underlying asset's price is expected to rise (examples include the long call, covered call, bull call spread and short put)

• Bearish Strategies: Aim to profit when the underlying asset's price is expected to fall (examples include the long put, covered put, bear put spread and short call)

• Neutral Strategies: Aim to profit when the underlying asset's price is expected to stay relatively stable (examples include the iron condor, iron butterfly, calendar spread and butterfly spread)

• Volatile Strategies: Aim to profit from large price swings in either direction, regardless of whether the asset's price rises or falls (examples include straddles, strangles, long call and put and ratio backspreads)

Conclusion

The bottom line is that you have various types of options trading strategies to choose from. Manually analysing the suitability of each strategy and finding a suitable strategy can be challenging at times and impossible at others. Here is where Options B.R.O from Samco Securities can help.

Designed as an advanced strategy builder, Samco’s Options B.R.O. is a smart tool that helps simplify options trading. It analyses your view on the market conditions and automatically suggests the best strategies based on your objectives — whether you're bullish, bearish, neutral or expecting volatility. With Options B.R.O, you can skip the complexity of manual analysis and rely on tailored insights to make informed decisions, so you're always equipped with the right strategy at the right time.

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