Buying options is how most traders begin their options journey – you pay a premium upfront to acquire rights without obligations. When you buy an option, whether it’s a put or a call, you’re taking what’s known as a “long” position. This means you own the contract and have the right to exercise it, but you’re never required to do anything. Your maximum risk is limited to the premium you paid, while your potential reward can be substantial. Understanding the mechanics and implications of buying options is crucial before moving on to the potentially riskier strategy of selling options.
What Happens When You Buy Options
When you buy an option, you:
- Pay a premium (your maximum possible loss)
- Receive rights but no obligations
- Create a “long” position
- Can profit from favorable price movements
- Can sell the option before expiration
- Can exercise the option if profitable
- Can let it expire worthless if not profitable
The key advantage: limited risk with potentially unlimited reward (for calls) or substantial reward (for puts).
Buying Calls – The Right to Buy
When you buy a call option, you acquire the right to purchase 100 shares at the strike price before expiration. Call buyers are typically:
- Bullish on the stock
- Looking for leverage
- Wanting to control shares with less capital
Example: Buying a Call
XYZ stock is at $50, you buy a weekly $52 call for $0.75:
- Cost: $75 (100 × $0.75)
- Breakeven: $52.75 ($52 strike + $0.75 premium)
- If stock rises to $55:
- Option worth $3.00 ($55 – $52)
- Profit: $225 (($3.00 – $0.75) × 100)
- Return: 300% in one week
- If stock stays below $52: Lose the $75 premium
Buying Puts – The Right to Sell
When you buy a put option, you acquire the right to sell 100 shares at the strike price before expiration. Put buyers are typically:
- Bearish on the stock
- Protecting existing holdings
- Speculating on a decline
Example: Buying a Put
XYZ stock is at $50, you buy a weekly $48 put for $0.60:
- Cost: $60 (100 × $0.60)
- Breakeven: $47.40 ($48 strike – $0.60 premium)
- If stock falls to $45:
- Option worth $3.00 ($48 – $45)
- Profit: $240 (($3.00 – $0.60) × 100)
- Return: 400% in one week
- If stock stays above $48: Lose the $60 premium
The Power of Leverage
Options provide leverage – control more shares with less capital:
Buying 100 shares at $50: Requires $5,000 Buying 1 call option: Requires $75-$150 typically
This leverage magnifies both gains and losses percentage-wise, though losses are capped at the premium paid.
Time is Your Enemy When Buying
When you buy options, time decay (theta) works against you:
- Options lose value each day, all else being equal
- Decay accelerates as expiration approaches
- Weekly options decay faster than monthly options
- You need the stock to move favorably AND quickly
This is why buying options is often compared to buying a melting ice cube – you need to be right about both direction and timing.
Volatility Considerations
Implied volatility (IV) greatly affects option prices:
- High IV = expensive options
- Low IV = cheaper options
- Buying before earnings or events often means paying high IV
- If IV drops after you buy, your option loses value even if the stock moves favorably
Smart buyers look for reasonably priced options with catalysts for movement.
When to Buy Options
Consider buying options when:
- You have strong conviction about direction
- You want to limit risk to a small amount
- You expect a significant move quickly
- IV is relatively low
- You’re hedging existing positions
- You want to “test the waters” before buying shares
Common Mistakes When Buying Options
Buying OTM Weekly Options: Lottery tickets rarely pay off Ignoring Time Decay: Not respecting how quickly options lose value Overpaying for IV: Buying expensive options before events Poor Position Sizing: Risking too much on low-probability trades No Exit Plan: Not knowing when to take profits or cut losses
Managing Long Options Positions
Set Profit Targets: Consider selling at 25-50% profit for consistency Cut Losses: If down 50%, reassess the trade Don’t Hold to Expiration: Sell before the final week unless deep ITM Roll If Needed: Extend duration if thesis still valid but needs time
The Psychology of Buying Options
Buying options can be emotionally challenging:
- Most expire worthless (but losses are limited)
- Winners can be huge (but are less frequent)
- Requires discipline to take profits
- Easy to overtrade due to low entry cost
- FOMO can lead to chasing expensive options
Buying as Education
For new traders, buying options offers:
- Limited risk while learning
- Understanding of option mechanics
- Experience with Greeks in action
- Lower stress than selling
- Clear maximum loss
Many successful option sellers started as buyers, learning the market before taking on the obligations of selling.
Tax Treatment for Option Buyers
When you buy options:
- Losses are capital losses (can offset gains)
- Gains are typically short-term capital gains
- Expired options are treated as sold for $0
- Exercised options adjust your stock basis
Keep detailed records of all option trades for tax reporting.
Key Takeaways
Buying Options:
- Creates long positions with limited risk
- Pays premium for rights without obligations
- Fights against time decay
- Benefits from favorable price movement
- Provides leverage with defined risk
- Good for speculation or hedging
- Maximum loss = premium paid
Remember: When you buy options, you need to be right about direction, magnitude, and timing. This is why many traders eventually transition to selling options, where time decay works in their favor and they can profit from stocks going sideways.