Ratio Call Write

What Is Ratio Call Write?

The term ratio call compose alludes to an options trading strategy wherein a trader who possesses shares in an underlying stock sells more call options than the total number of shares owned.

Understanding Ratio Call Write

The goal of a ratio call compose is to capture the extra premiums received by the option sales. The call writer hopes that there is next to zero volatility by any stretch of the imagination in the underlying stock over a similar period. The tradeoff with these sorts of transactions is that the potential for profits is capped and, since these are call options, they accompany the possibility of unlimited risk.

Options are derivative contracts that give an investor the right to buy or sell securities at a given price. These contracts are partitioned into two distinct branches: call and put options. Call options permit buyers to purchase the right to buy the underlying asset at a set price in the future while a put option permits the buyer to sell the underlying asset at a set price from here on out.

Traders have numerous options strategies accessible to them, including ratio call composing. With call composing, traders sell call options to gain premiums. In ratio call composing, the ratio addresses the number of options sold for each 100 shares owned in the underlying stock. For instance, a 3:1 ratio call compose infers composing three call option contracts (addressing a total of 300 shares) while claiming 100 shares of the asset.

The payoff from holding the asset and composing the calls looks like a traditional covered call, with the exception of the potential profit is enhanced. Simultaneously, the potential loss becomes endless, since the investor basically has a 1:1 covered call position and afterward is short two more naked calls. These naked shorts have an unlimited loss potential as the price of a stock can, in theory, go to endlessness.

The profit range for ratio call composes is much of the time exceptionally narrow, thus why they're capped. A large drop in price might wind up costing the trader an extensive sum of money in the shares they own that surpasses the amount of premium collected. Assuming the price of the underlying shares increments too much, the trader will likewise lose.

A ratio call compose falls under the more extensive category of options strategies known as buy-composes.

As we referenced above, ratio call composing is like a covered call. Recall that a covered call is a strategy by which the owner of the underlying asset sells call options at an equivalent or higher strike price to where the stock is currently trading in a 1:1 way. The purpose of the covered call strategy is to produce extra income from the premiums collected from the sale of the option.

The strategy takes care of most when the stock doesn't change from its current level since the call will ultimately lapse worthlessly and the investor will in any case claim the shares while collecting the whole options premium. Yet, composing covered calls limits the upside potential since the short calls will be assigned and any gains in the stock over the strike price will be offset by the short call.

Ratio Call Write Example

Here is a speculative guide to show how ratio call composing functions. Suppose shares of Company XYZ trade at $50 per share. An investor who claims 1,000 shares in the company might sell 10x of the 60 strike call option expiring in 90 days. This would be a covered call. In a ratio call compose, they would rather sell more than 10x, say 25x, of the 60 strike call.

However long XYZ stock remaining parts below $60, the investor will stay profitable. That is on the grounds that the call options will lapse worthless and the investor will collect the whole premium of the 25 options that were sold. On the off chance that, nonetheless, XYZ's stock price transcends $60, the investor will lose money since the long stock position isn't completely hedged against the larger amount of short calls that become in-the-money (ITM).

Features

• Call writers hope that there is almost no volatility by any means in the underlying stock over a similar period.
• The potential for profits is capped and losses become limitless with ratio call composes.
• Traders who execute these transactions aim to capture the extra premiums received by the option sales.
• Traders who own shares in an underlying stock sell more call options than the total number of shares owned in a ratio call compose.
• A ratio call compose is an options strategy.