Buy To Open In Options Trading: Explained With Examples
by Abdul Aziz Mondal Finance 22 July 2023
When starting with options trading, you’ll probably come across the term “buy to open.” This term describes the nature of an order placed by an options trader. So, it’s sensible to understand what this term means for options trading and what it is used for. As part of our options trading for beginners guide, we’ll introduce you to the concept of buy to open so you can understand how it works in practice. Just keep reading.
Buy To Open In Options Trading
Buy to open is a type of order made when establishing a position in a derivative. In other words, you’re buying an option to create a position. This is different from selling an option where you get to establish an open position. When you open a position in options, you’re buying to open.
This type of options trading happens when a trader enters an order to buy either call or puts based on their trading outlook. The main difference between buying a stock and going long options is that a long options position could be a bearish trading strategy. Buying calls is a bullish strategy. Either calls or puts can be utilized when executing a buy-to-open order.
A buy-to-open position may show market participants that the trader believes something regarding the market, especially regarding large orders. Nonetheless, this doesn’t have to be the case. Options traders often take part in hedging or spreading activities where a buy-to-open may offset existing positions.
Example Of Buy To Open
Andrew is an options trader. He conducts market research and expects the price of XYZ stocks to rise from $150 to $300 within four months. As such, he places a buy-to-open order on a call option for XYZ. He buys 10 shares at a strike price of $260 each and an expiration period of six months.
If the price rises to $300, Andrew may exercise his right to purchase XYZ stocks at $260 per share. Then, he can sell the stocks at a higher price. It’s worth noting that the price increase must take place within the defined timeframe in the options contract.
Andrew’s buy-to-open order might look like this:
- Action: Buy to Open
- Underlying stock: XYZ
- Contract Quantity: 10
- Strike: $260
- Expiration date: January 2024
- Order type: Market
- Call/Put: Call
Buying to open orders can yield huge profits. However, they carry the risk that the options will expire worthless if the stock price does not rise.
Buy To Open Call Vs. Buy To Open Put
When executing a buy-to-open order, a trader can use it to open a long put position or a long call position. If a trader uses the call option to place a buy-to-open position, they are buying the right to buy the underlying asset at a defined price, known as the strike price, because they expect the prices to rise above the current market price. The trader might be betting on the direction of the underlying stock or movements in other variables, such as time decay or volatility.
Conversely, if a trader opens a buy-to-open position on a put option, they are buying the right to sell the asset at a certain price because they believe the stock price will decline, increasing the put option’s value. Increased volatility also benefits the put holder after an order is placed.
Bottom Line
Buying to open in options trading is when you buy a position by buying a contract. Then, depending on the market conditions, you can choose to exit the position when the expiration date reaches. You can let the option expire worthless or sell it to another trade. Buying to open is one of the most basic moves you should learn before trading options.
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