ETF Options 101: 3 Ways To Go Long SPY

September 17, 2015

This is a weekly column focusing on ETF options by Scott Nations, a proprietary trader and financial engineer with about 20 years of experience in options.

Savvy ETF investors like to use options because there are so many different strategies that express the same general market outlook. One strategy might collect premium, one might cost premium and one might be done for no net premium, meaning an investor can tailor her strategy for her specific market outlook rather than just using the blunt instrument of buying or shorting the ETF.

For example, a bullish investor might buy a call option that will cost premium, or she might sell a put option that will generate premium, or she might combine the two in a third structure that doesn’t pay or generate much premium, but that will have a unique payoff profile.

3 Options Plays On Spy
An investor who is bullish on the SPDR S&P 500 ETF (SPY | A-99) could simply buy a call option and get bullish exposure. Unfortunately, that requires paying premium. However, that premium would be our maximum potential loss, while the potential profit is theoretically unlimited; as long as SPY continues to rally, our call purchase will continue to increase in profit.

With SPY at $199.72 recently, an investor could have bought the November $201 strike call for $4.85 per share. This call option would give the call owner the right to buy 100 shares of SPY at $201.00 at any time prior to option expiration. While the premium paid is the maximum potential loss, the downside of this trade is that SPY must rally for the trade to be profitable, as you can see:

Selling A SPY Put Option
As an alternative, a bullish investor could also sell a put option in SPY to get bullish-to-sideways exposure.

Selling a put option generates option premium that the put seller gets to pocket, no matter how low SPY goes. If SPY drops below the strike price of the put option at expiration, our put seller will end up buying the stock at the strike price, although the premium received will lower the effective purchase price of the shares; selling a put option is a little like a limit order to buy the shares.

Since this is the case, the potential loss is similar to that from owning the shares—as you can see from this example, again, with SPY at $199.72, but in this case, selling the November $195 strike put option at $4.90. The breakeven has now been lowered to just $190.10. Above there, this trade is profitable, but the profit is limited to just the $4.90 in premium collected.

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