Options Trading
Options are often labelled as ‘complicated’ and ‘hard to understand’ which is a common misconception. Options trading can provide you with a limited risk alternative to speculating on the financial markets.
With City Index, you can spread bet Options on our most popular indices, currencies and commodities. Our spread bet Options start from just £1 per point on daily options and £10 per point on our monthly Options.
What are Options?
There are two types of Options, a Call and a Put.
A Call Option is the right to buy a particular market at a fixed price on or before a specific date in the future. For example, FTSE 100 June 5700 Call essentially gives you the right to buy the FTSE 100 at 5700 at or before the June expiry. What you would be hoping is that the FTSE 100 rallies beyond the 5700 strike price and thereby locking in a profit by exercising the Option, as you can now buy the FTSE 100 at a cheaper level than the underlying. This is said to be when the Option has intrinsic value.
Similarly, a Put Option is the right to sell a particular market at a fixed price on or before a specific date in the future. For example, FTSE 100 June 5700 Put essentially gives you the right to sell the FTSE 100 at 5700 at or before the June expiry. What you would be hoping is that the FTSE 100 falls below the 5700 strike price, allowing you to sell FTSE at 5700. This is said to be when the Option has intrinsic value and is In-the-Money.
Spread betting Options work in the same manner as regular Options, but they will always be cash settled (ie you will not actually buy or sell the underlying at expiry). Instead you are betting on the price of the Option.
Features of Spread Betting Options
- Tax-free profits*
- Low margins¹
- Ability to profit from static markets
- When you buy an Option your risk is limited to the price of the option multiplied by your stake. However, please be aware that when you sell an Option, your risk is unlimited.
¹Lower deposit rates may allow you to increase your risk.
Using Options to Manage Risk
Options can be extremely versatile and are often under utilised when considering managing the overall risk of a portfolio. Whether you are considering using Options as a defensive tool (buying put Options) or as upside protection (buying call Options) they can be extremely useful in helping to manage your portfolio in a more effective way. Investors are drawn to purchasing options as a form of insurance on an event occurring that may be detrimental to an existing position. A key benefit of this tactic is that the maximum liability of the Options trade is known from the outset.
For example, if you thought the FTSE 100 was over bought at its current level, you could consider buying a Put Option to profit from a potential correction in the market or to protect an existing long portfolio which you may not want to liquidate at this time. Indeed, Options have been gaining in popularity as a tool used by spread bettors and in fact more traders were drawn to use Options throughout the recent bear market, as a key tool to help bring down their risk exposure.
How to Trade Options
Example Call Option Bet
It’s June and the UK 100 is at 4920. Our UK 100 Sep Call 4900 bet price is at 132 / 136.
Going Long on a Call Option
You expect the UK 100 to rally over the coming weeks and therefore open a buy position (go long) of £10 per point at 136.
Over the next few weeks the UK 100 rallies following the release of some positive UK economic data. The latest UK 100 cash level is now 5100 and the UK 100 Sep Call 4900 bet price is at 275 / 279. Having reached a comfortable level of profit, you decide to cash in your gains by selling £10 per point at 275 (our sell price).
Result: You bought at 136 and sold at 275, which represents a 139-point movement in your favour which, at your stake size of £10 per point, nets you a tax-free profit* of £1,390 (275 - 136 x £10).
Alternative scenario: If however, the UK 100 had fallen, you would net a £10 loss for every point the Option price moved lower up to a maximum of the price you paid x your stake; £1,360 (0 – 136 x £10).
Going Short on a Call Option
You expect the UK 100 to fall over the coming weeks and therefore open a sell position (go short) of £10 per point at 132. This means that for every point that the option falls, you will net a profit of £10.
Over the next few weeks the UK 100 falls following some poor company earnings. The latest UK 100 cash level is now 4815 and the UK 100 Sep Call 4900 bet price is at 65 / 68. Having reached a comfortable level of profit, you decide to cash in your gains by buying back £10 per point at 68 (our buy price).
Result: You sold at 132 and bought back at 68, which represents a 64-point movement in your favour which, at your stake size of £10 per point, nets you a tax-free profit of £640 (132 – 68 x £10).
Alternative scenario: If however, the UK 100 had rallied, causing the price of the Option to rise to 228/232, you would net a £1000 loss (132 - 232 x £10).
Put Option Bet Example
It’s June and UK 100 cash is at 4920. Our UK 100 Sep Put 4900 bet price is at 140 / 143.
Going Long on a Put Option
You expect the UK 100 to fall over the coming weeks and therefore open a buy position (go long) of £10 per point at 143.
Over the next few weeks the UK 100 falls following some poor company earnings. The latest UK 100 cash level is now 4815 and the UK 100 Sep Put 4900 bet price is at 298 / 302. Having reached a comfortable level of profit, you decide to cash in your gains by selling £10 per point at 298 (our sell price).
Result: You bought at 143 and sold at 298, which represents a 155-point movement in your favour which, at your stake size of £10 per point, nets you a tax-free profit* of £1,550 (298 - 143 x £10).
Alternative scenario: If however, the UK 100 had risen, you would net a £10 loss for every point the Option price moved lower up to a maximum of the price you paid x your stake; £1,430 (0 – 143 x £10).
Going Short on a Put Option
You expect the UK 100 to rally over the coming weeks and therefore open a sell position (go short) of £10 per point at 140. This means that for every point that the option falls, you will net a profit of £10.
Over the next few weeks the UK 100 rallies following the release of some positive UK economic data. The latest UK 100 cash level is now 5100 and the UK 100 Sep Put 4900 bet price is at 68 / 71. Having reached a comfortable level of profit, you decide to cash in your gains by buying back £10 per point at 71 (our buy price).
Result: You sold at 140 and bought back at 71, which represents a 69-point movement in your favour which, at your stake size of £10 per point, nets you a tax-free profit of £690 (140 – 71 x £10).
Alternative scenario: If however, the UK 100 had fallen, causing the price of the Option to fall to 40/43 you would net a £970 loss (43 - 140 x £10).
Daily Options Example 1: UK 100 Cash
Say the UK 100 cash is trading at 6002.2. You buy £5 per point of a ‘UK 100 Daily Call 6010’ at a price of 6.2.
You cannot lose more than £31 (6.2 x £5). This is the worst case scenario for you and only occurs if your option is worth nothing.
Result: The UK 100 cash settles at 6024.3 at 4.36pm. Your position will automatically close at 14.3 (settlement level 6024.3 minus strike level 6010). This gives you a profit of £40.50 (14.3-6.2 x £5).
Alternative scenario: Had the UK 100 cash closed lower at 5978.1, say, then your loss would be £31 (6.2 x £5).
Daily Options Example 2
Let’s say the UK 100 cash is trading at 6002.2. You sell £5 per point of a ‘UK 100 Daily Put 5990’ at a price of 6.1.
Result: The UK 100 cash settles at 6024.3 at 4.36pm. Your position will automatically close at 0, giving you a profit of £30.50 (6.1-0 x £5).
Alternative scenario: Had the UK 100 cash closed lower at 5985.1, say, your loss would then be £24.50 (strike level 5990 minus settlement level 5985.1 x £5).
Tax-free profits*: Spread betting forex Options is free from capital gains tax and stamp duty in the UK, however please remember that tax laws are subject to change and depend on individual circumstances so please seek independent advice if necessary.
