Call options are probably the first options contracts you'll begin learning about when you start getting into options trading. Call options are the polar opposites of put options: they are agreements that give you the right, but not with any obligation, to "call in" (in other words, buy) an asset in the future at a price agreed upon today.
Call options are often used within a covered call strategy, one of the most widely used of all options strategies. With a covered call, you hold a long position with a call option while you simultaneously sell (that is, write) call options on the very same asset that you've gone long with. The idea is to minimize downside risk even as you set up the possibility of getting income from the option premiums.
Imagine if you hold a 100-share position (basically you hold one contract) in the PDQ stock; you buy these shares for $10 each. Soon after this event, you write a call option for the PDQ stock at an exercise price of $13.50, and you sell it for a relatively small premium. As long as the price of PDQ stays below $13.50 until the maturity (expiration) of the contract, you get to keep the premium. If the price rises above the $13.50 level and the option is exercised, then you'll have to sell the shares at $13.50 to the option holder. Your trade will only take a loss on the difference between the market price and the contract exercise price.
Some more advanced call options traders use a technique called the "synthetic call". This is a strategy to mimic the profit realization of a call option. A synthetic call involves buying a contract's undergirding asset, then selling a bond, and then purchasing a put option. The strike price on the put option equals the face value of the bond, and that in turn acts as the exercise price of the synthetic call.
So, synthetic call options are, in effect, just like call options. Synthetic call options will end up in the money at the time when their prices of the undergirding assets are larger than the face value of the bonds that were sold at the time of expiration. The synthetic call option will be out-of-the-money when the value of the bond exceeds that of the undergirding asset. When the synthetic call is in the money, the profit is the spread between thet face value of the bond and the price of the undergirding asset. If the call finishes out of the money, the put option soaks up the loss from the undergirding asset, and the exercise price of the put pays for the bond.
Call options are basic, elemental tools for any options investor to use. Should you want more guidance about them, consult options advisory newsletters.
