Buying Lead Put Options to Profit from a Fall in Lead Prices

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Contents

Buying Lead Call Options to Profit from a Rise in Lead Prices

If you are bullish on lead, you can profit from a rise in lead price by buying (going long) lead call options.

Example: Long Lead Call Option

You observed that the near-month LME Lead futures contract is trading at the price of USD 1,145 per tonne. A LME Lead call option with the same expiration month and a nearby strike price of USD 1,100 is being priced at USD 76.33/ton. Since each underlying LME Lead futures contract represents 25 tonnes of lead, the premium you need to pay to own the call option is USD 1,908.

Assuming that by option expiration day, the price of the underlying lead futures has risen by 15% and is now trading at USD 1,317 per tonne. At this price, your call option is now in the money.

Gain from Call Option Exercise

By exercising your call option now, you get to assume a long position in the underlying lead futures at the strike price of USD 1,100. This means that you get to buy the underlying lead at only USD 1,100/ton on delivery day.

To take profit, you enter an offsetting short futures position in one contract of the underlying lead futures at the market price of USD 1,317 per tonne, resulting in a gain of USD 217.00/ton. Since each LME Lead call option covers 25 tonnes of lead, gain from the long call position is USD 5,425. Deducting the initial premium of USD 1,908 you paid to buy the call option, your net profit from the long call strategy will come to USD 3,517.

Long Lead Call Option Strategy
Gain from Option Exercise = (Market Price of Underlying Futures – Option Strike Price) x Contract Size
= (USD 1,317/ton – USD 1,100/ton) x 25 ton
= USD 5,425
Investment = Initial Premium Paid
= USD 1,908
Net Profit = Gain from Option Exercise – Investment
= USD 5,425 – USD 1,908
= USD 3,517
Return on Investment = 184%

Sell-to-Close Call Option

In practice, there is often no need to exercise the call option to realise the profit. You can close out the position by selling the call option in the options market via a sell-to-close transaction. Proceeds from the option sale will also include any remaining time value if there is still some time left before the option expires.

In the example above, since the sale is performed on option expiration day, there is virtually no time value left. The amount you will receive from the lead option sale will be equal to it’s intrinsic value.

Learn More About Lead Futures & Options Trading

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Buying Straddles into Earnings

Buying straddles is a great way to play earnings. Many a times, stock price gap up or down following the quarterly earnings report but often, the direction of the movement can be unpredictable. For instance, a sell off can occur even though the earnings report is good if investors had expected great results. [Read on. ]

Writing Puts to Purchase Stocks

If you are very bullish on a particular stock for the long term and is looking to purchase the stock but feels that it is slightly overvalued at the moment, then you may want to consider writing put options on the stock as a means to acquire it at a discount. [Read on. ]

What are Binary Options and How to Trade Them?

Also known as digital options, binary options belong to a special class of exotic options in which the option trader speculate purely on the direction of the underlying within a relatively short period of time. [Read on. ]

Investing in Growth Stocks using LEAPS® options

If you are investing the Peter Lynch style, trying to predict the next multi-bagger, then you would want to find out more about LEAPS® and why I consider them to be a great option for investing in the next Microsoft®. [Read on. ]

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Effect of Dividends on Option Pricing

Cash dividends issued by stocks have big impact on their option prices. This is because the underlying stock price is expected to drop by the dividend amount on the ex-dividend date. [Read on. ]

Bull Call Spread: An Alternative to the Covered Call

As an alternative to writing covered calls, one can enter a bull call spread for a similar profit potential but with significantly less capital requirement. In place of holding the underlying stock in the covered call strategy, the alternative. [Read on. ]

Dividend Capture using Covered Calls

Some stocks pay generous dividends every quarter. You qualify for the dividend if you are holding on the shares before the ex-dividend date. [Read on. ]

Leverage using Calls, Not Margin Calls

To achieve higher returns in the stock market, besides doing more homework on the companies you wish to buy, it is often necessary to take on higher risk. A most common way to do that is to buy stocks on margin. [Read on. ]

Day Trading using Options

Day trading options can be a successful, profitable strategy but there are a couple of things you need to know before you use start using options for day trading. [Read on. ]

What is the Put Call Ratio and How to Use It

Learn about the put call ratio, the way it is derived and how it can be used as a contrarian indicator. [Read on. ]

Understanding Put-Call Parity

Put-call parity is an important principle in options pricing first identified by Hans Stoll in his paper, The Relation Between Put and Call Prices, in 1969. It states that the premium of a call option implies a certain fair price for the corresponding put option having the same strike price and expiration date, and vice versa. [Read on. ]

Understanding the Greeks

In options trading, you may notice the use of certain greek alphabets like delta or gamma when describing risks associated with various positions. They are known as “the greeks”. [Read on. ]

Valuing Common Stock using Discounted Cash Flow Analysis

Since the value of stock options depends on the price of the underlying stock, it is useful to calculate the fair value of the stock by using a technique known as discounted cash flow. [Read on. ]

Lead Options Explained

Lead options are option contracts in which the underlying asset is a lead futures contract.

The holder of a lead option possesses the right (but not the obligation) to assume a long position (in the case of a call option) or a short position (in the case of a put option) in the underlying lead futures at the strike price.

This right will cease to exist when the option expire after market close on expiration date.

Lead Option Exchanges

Lead option contracts are available for trading at London Metal Exchange (LME).

LME Lead option prices are quoted in dollars and cents per metric ton and their underlying futures are traded in lots of 25 tonnes (55116 pounds) of lead.

Exchange & Product Name Underlying Contract Size Exercise Style Option Price Quotes
LME Lead Options 25 ton
(Full Contract Specs)
American N.A.

Call and Put Options

Options are divided into two classes – calls and puts. Lead call options are purchased by traders who are bullish about lead prices. Traders who believe that lead prices will fall can buy lead put options instead.

Buying calls or puts is not the only way to trade options. Option selling is a popular strategy used by many professional option traders. More complex option trading strategies, also known as spreads, can also be constructed by simultaneously buying and selling options.

Lead Options vs. Lead Futures

Additional Leverage

Limit Potential Losses

As lead options only grant the right but not the obligation to assume the underlying lead futures position, potential losses are limited to only the premium paid to purchase the option.

Flexibility

Using options alone, or in combination with futures, a wide range of strategies can be implemented to cater to specific risk profile, investment time horizon, cost consideration and outlook on underlying volatility.

Time Decay

Options have a limited lifespan and are subjected to the effects of time decay. The value of a lead option, specifically the time value, gets eroded away as time passes. However, since trading is a zero sum game, time decay can be turned into an ally if one choose to be a seller of options instead of buying them.

Learn More About Lead Futures & Options Trading

You May Also Like

Continue Reading.

Buying Straddles into Earnings

Buying straddles is a great way to play earnings. Many a times, stock price gap up or down following the quarterly earnings report but often, the direction of the movement can be unpredictable. For instance, a sell off can occur even though the earnings report is good if investors had expected great results. [Read on. ]

Writing Puts to Purchase Stocks

If you are very bullish on a particular stock for the long term and is looking to purchase the stock but feels that it is slightly overvalued at the moment, then you may want to consider writing put options on the stock as a means to acquire it at a discount. [Read on. ]

What are Binary Options and How to Trade Them?

Also known as digital options, binary options belong to a special class of exotic options in which the option trader speculate purely on the direction of the underlying within a relatively short period of time. [Read on. ]

Investing in Growth Stocks using LEAPS® options

If you are investing the Peter Lynch style, trying to predict the next multi-bagger, then you would want to find out more about LEAPS® and why I consider them to be a great option for investing in the next Microsoft®. [Read on. ]

Effect of Dividends on Option Pricing

Cash dividends issued by stocks have big impact on their option prices. This is because the underlying stock price is expected to drop by the dividend amount on the ex-dividend date. [Read on. ]

Bull Call Spread: An Alternative to the Covered Call

As an alternative to writing covered calls, one can enter a bull call spread for a similar profit potential but with significantly less capital requirement. In place of holding the underlying stock in the covered call strategy, the alternative. [Read on. ]

Dividend Capture using Covered Calls

Some stocks pay generous dividends every quarter. You qualify for the dividend if you are holding on the shares before the ex-dividend date. [Read on. ]

Leverage using Calls, Not Margin Calls

To achieve higher returns in the stock market, besides doing more homework on the companies you wish to buy, it is often necessary to take on higher risk. A most common way to do that is to buy stocks on margin. [Read on. ]

Day Trading using Options

Day trading options can be a successful, profitable strategy but there are a couple of things you need to know before you use start using options for day trading. [Read on. ]

What is the Put Call Ratio and How to Use It

Learn about the put call ratio, the way it is derived and how it can be used as a contrarian indicator. [Read on. ]

Understanding Put-Call Parity

Put-call parity is an important principle in options pricing first identified by Hans Stoll in his paper, The Relation Between Put and Call Prices, in 1969. It states that the premium of a call option implies a certain fair price for the corresponding put option having the same strike price and expiration date, and vice versa. [Read on. ]

Understanding the Greeks

In options trading, you may notice the use of certain greek alphabets like delta or gamma when describing risks associated with various positions. They are known as “the greeks”. [Read on. ]

Valuing Common Stock using Discounted Cash Flow Analysis

Since the value of stock options depends on the price of the underlying stock, it is useful to calculate the fair value of the stock by using a technique known as discounted cash flow. [Read on. ]

What Is a Put Option? Examples and How to Trade Them in 2020

Jan 9, 2020 5:35 PM EST

When the market is volatile, as it has been recently, investors may need to re-evaluate their strategies when picking investments. While buying or holding long stock positions in the market can potentially lead to long-term profits, options are a great way to control a large chunk of shares without having to put up the capital necessary to own shares of bigger stocks – and, can actually help hedge or protect your stock investments.

In fact, having the option to sell shares at a set price, even if the market price drastically decreases, can be a huge relief to investors – not to mention a profit-generating opportunity.

So, what is a put option, and how can you trade one in 2020?

What Is a Put Option?

A put option is a contract that gives an investor the right, but not the obligation, to sell shares of an underlying security at a set price at a certain time. Unlike a call option, a put option is typically a bearish bet on the market, meaning that it profits when the price of an underlying security goes down.

Options trading isn’t limited to just stocks, however. You can buy or sell put options on a variety of securities including ETFs, indexes and even commodities.

Still, options trading is often used in place of owning stocks themselves. For example, if you were bearish on a particular stock and thought its share price would decrease in a certain amount of time, you might buy a put option which would allow you to sell shares (generally 100 per contract) at a certain price by a certain time. The price at which you agree to sell the shares is called the strike price, while the amount you pay for the actual option contract is called the premium. The premium essentially operates like insurance and will be higher or lower depending on the intrinsic or extrinsic value of the contract.

Essentially, when you’re buying a put option, you are “putting” the obligation to buy the shares of a security you’re selling with your put on the other party at the strike price – not the market price of the security. When trading put options, the investor is essentially betting that, at the time of the expiration of their contract, the price of the underlying asset (be it a stock, commodity or even ETF) will go down, thereby giving the investor the opportunity to sell shares of that security at a higher price than the market value – earning them a profit.

For example, if you wanted to buy a put option on Intel (INTC) – Get Report stock at a strike price of $48 per share, expecting the stock to go down in price in six months to sit at around $45 or $46, you could make a decent profit by exercising your put option and selling those shares at a higher price if the market price of the stock goes down like you thought it would.

Options are generally a good investment in a volatile market – and the market seems bearish and that’s no mistake. Despite a rally early in January that saw the Dow Jones Industrial Average rise some 98 points (with the S&P 500 and Nasdaq following suit with 0.7% and 1.26% increases respectively), the overall market has been nothing but volatile in recent months.

Yet, volatility (especially bearish volatility) is good for options traders – especially those looking to buy or sell puts.

Still, what is the difference between a put option and a call option?

Put vs. Call Option

While a put option is a contract that gives investors the right to sell shares at a later time at a specified price (the strike price), a call option is a contract that gives the investor the right to buy shares later on. Unlike put options, call options are generally a bullish bet on the particular stock, and tend to make a profit when the underlying security of the option goes up in price.

Put or call options are often traded when the investor expects the stock to move in some way in a set period of time, often before or after an earnings report, acquisition, merger or other business events. When purchasing a call option, the investor believes the price of the underlying security will go up before the expiration date, and can generate profits by buying the stock at a lower price than its market value.

So, how do you buy a put option?

How to Buy a Put Option

Just like with call options, put options can be bought through brokerages like Fidelity or TD Ameritrade (AMTD) – Get Report . Because options are financial instruments similar to stocks or bonds, they are tradable in a similar fashion. However, the process of buying put options is slightly different given that they are essentially a contract on underlying securities (instead of buying the securities outright).

In order to trade options in general, you will need to be approved by a brokerage for a certain level of options trading, based on a form and variety of criteria which typically classifies the investor into one of four or five levels. You can also trade options over-the-counter (OTC), which eliminates brokerages and is party-to-party.

Options contracts are typically comprised of 100 shares and can be set with a weekly, monthly or quarterly expiration date (although the time frame of the option can vary). When buying an option, the two main prices the investor looks at are the strike price and the premium for the option. For example, you could buy a put option for Facebook (FB) – Get Report at a $7 premium with a strike price of $143 (meaning you are agreeing to sell the shares at $143 once the contract expires if you so choose).

Still, what affects the price of the put option?

Time Value, Volatility and “In the Money”

Apart from the market price of the underlying security itself, there are several other factors that affect the total capital investment for a put option – including time value, volatility and whether or not the contract is “in the money.”

The time value of a put option is essentially the probability of the underlying security’s price falling below the strike price before the expiration date of the contract. For this reason, all put options (and call options for that matter) are experiencing time decay – meaning that the value of the contract decreases as it nears the expiration date. Options therefore become less valuable the closer they get to the expiration date.

But apart from time value, an underlying security’s volatility also affects the price of a put option. In the regular stock market with a long stock position, volatility isn’t always a good thing. However, for options, the higher the volatility (or the more dramatic the price swings) of a given stock, the more expensive the put option is. This is primarily due to how the put option is betting on the price of the underlying stock swinging in a set period of time. So, the higher the volatility of an underlying security, the higher the price of a put option on that security.

One of the major things to look at when buying a put option is whether or not the option is “in the money” – or, how much intrinsic value it has. A put option that is “in the money” is one where the price of the underlying security is below the strike price of the option. The option is considered “in the money” because it is immediately in profit – you could exercise the option immediately and make a profit because you would be able to sell the shares of the put option and make money. To this degree, an “at the money” put option is one where the price of the underlying security is equal to the strike price, and (as you may have guessed), an “out of the money” put option is one where the price of the security is currently above the strike price.

Because “in the money” put options are instantly more valuable, they will be more expensive. When buying put options, it is often advisable to buy “out of the money” options if you are very bearish on the stock as they will be less expensive.

Put Option Strategies

How can you trade put options in different markets?

While the general motivation behind trading a put option is to capitalize on being bearish on a particular stock, there are plenty of different strategies that can minimize risk or maximize bearishness.

1. Long Put

A long put is one of the most basic put option strategies.

When buying a long put option, the investor is bearish on the stock or underlying security and thinks the price of the shares will go down within a certain period of time. For example, if you are bearish on Apple (AAPL) – Get Report stock (which many investors are after they cut their first-quarter revenue forecast), you could buy a put option on Apple stock with a strike price of $150 per share, thinking its market value will decrease to around $145 in six months. Since the current price of Apple stock sits at around $153 per share, your put option would be “out of the money” and therefore less expensive. The more bearish you are on the stock, the more “out of the money” you’ll want to buy the stock. However, if the stock price does drop before the expiration date of your contract, you would be able to make a nice profit by exercising your put option and selling shares of Apple stock at $150 instead of the lower market price they are now worth.

Long options are generally good strategies for not having to put up the capital necessary to invest long in an expensive stock like Apple, and can often pay off in a somewhat volatile market. And, since the put option is a contract that merely gives you the option to sell the shares (instead of requiring you to), your losses will be limited to the premium you paid for the contract if you choose not to sell the shares (so, your losses are capped). As a disclaimer, like many options contracts, time decay is a negative factor in a long put given how the likelihood of the stock decreasing enough to where your put would be “in the money” decreases daily.

2. Short Put

The short put, or “naked put,” is a strategy that expects the price of the underlying stock to actually increase or remain at the strike price – so it is more bullish than a long put.

Much like a short call, the main objective of the short put is to earn the money of the premium on that stock. The short put works by selling a put option – especially one that is further “out of the money” if you are conservative on the stock.

The risk of this strategy is that your losses can be potentially extensive. Since you are selling the put option, if the stock plummets to near zero, you are obligated to buy a virtually worthless stock. Whenever you are selling options, you are the one obligated to buy or sell the option (meaning that, instead of having the option to buy or sell, you are obligated.) For this reason, selling put (or call) options on individual stocks is generally riskier than indexes, ETFs or commodities.

With a short put, you as the seller want the market price of the stock to be anywhere above the strike price (making it worthless to the buyer) – in which case you will pocket the premium. However, unlike buying options, increased volatility is generally bad for this strategy. Still, while time decay is generally negative for options strategies, it actually works to this strategy’s favor given that your goal is to have the contract expire worthless.

3. Bear Put Spread

While long puts are generally more bearish on a stock’s price, a bear put spread is often used when the investor is only moderately bearish on a stock.

To create a bear put spread, the investor will short (or sell) an “out of the money” put while simultaneously buying an “in the money” put option at a higher price – both with the same expiration date and number of shares. Unlike the short put, the loss for this strategy is limited to whatever you paid for the spread, because the worst that can happen is that the stock closes above the strike price of the long put, making both contracts worthless. Still, the max profits you can make are also limited.

One bonus of a bear put spread is that volatility is essentially a nonissue given that the investor is both long and short on the option (so long as your options aren’t dramatically “out of the money”). And, time decay, much like volatility, won’t be as much of an issue given the balanced structure of the spread.

In essence, a bear put spread uses a short put option to fund the long put position and minimize risk.

4. Protective Put

Also dubbed the “married put,” a protective put strategy is similar to the covered call in that it allows an investor to essentially protect a long position on a regular stock.

As far as analogies go, the protective put is probably the best example of how options can act as a kind of insurance for a regular stock position. To use a protective put strategy, buy a put option for every 100 shares of your regularly-owned stock at a certain strike price.

If the stock price plummets below the put option strike price, you will lose money on your stock, but will actually be “in the money” for your put option, minimizing your losses by the amount that your option is “in the money.”

Put Option Examples

Here are some actual examples of put option strategies:

Say you want to buy a long put for Oracle (ORCL) – Get Report stock that is currently trading at $45. If you’re moderately bearish on the stock, you could buy a put “at the money” with a strike price of $45 per share for a $3 premium on 100 shares, set to expire in three months – making the cost of the contract $300 ($3 times 100 shares). Given the long put strategy, $300 is the max amount you can lose on the trade. If the stock falls to $35 per share by the time of the expiration date, you will be $10 “in the money” on your long put, making you a $700 profit on the option (or, the new value of the contract at $1,000 minus the premium of $300).

Best Binary Options Brokers: 2020 Ranking
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  • Binomo
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