How Do Options Work?

Options are financial derivative instruments that are contracts between a seller and a buyer. The contract offers the buyer the right, but not the obligation, to purchase the underlying instrument (stock, commodity, index, or bond) at a specific price (called the strike price) by a certain time.

Once the contract deadline passes, the instrument expires. If the option is in the money, the contract is settled in cash or exchanged for shares. If it is out of the money, the option expires worthless.

Options Trading Basics: Call v Put

The first thing all new options traders learn is the difference between call vs put options. There are major differences between the two – and one similarity: Options traders can buy and sell both for profit.

What Is Spread Trading?

Spread trading is an options trading strategy in which we choose to sell spreads on out of the money options, a high probability bet. Our goal is to take advantage of time decay to capture premium on potentially expiring options.

It is very different from directional trading, which requires us to correctly (and thoughtfully) guess whether the market will move up, down, or sideways. With spread trading, we only care that the weekly or monthly options we are holding expire nearly or completely worthless.