Options Selling
An Options Seller is someone who sells an options contract and later buys it back at a lower price to earn a profit. Options are traded based on an obligation to buy and sell the underlying asset at a later date, at a particular price. Options prices move as per the underlying asset. Therefore, if the view of the option seller is right, the decrease in the premium of the options contract is a profit for the option seller and a loss for the buyer of an option.
Chances of an Option Seller making money
Options trading is a game of skills and probability. There are many factors involved in an options price known as the Options Greeks. Some of the important Option Greeks are Delta, Theta, Gamma, etc.
The chances of making money in options not only depends on the view of the trader but also the options greeks. “Theta” always works against the option buyer whereas theta is the main gaining factor for an options seller. Theta means the Time decay in options due to which an OTM (Out of The Money) Option expires worthless (0) on the date of expiry.
Due to this, an option seller generates some profits even if their view goes wrong. This is because of the time value in an option contract. The overall gaining probability for an options seller is more than 66%.
How much money can an Options seller make?
Now to address the burning question, There is no formula or specified rate that can define exactly how much an option seller can make. Although the probability of profit is more than double that of an option buyer. Still, the maximum profit that you, as an option seller can get is capped at the total premium received.
Options Selling requires much more margin money as compared to option buying. On the other hand, option sellers can get the margin benefit if they hedge their positions. In this way, you secure your position from any unforeseen circ*mstances that can lead to massive losses.
Hedging a position reduces the overall profits but more importantly reduced the downside risk in options selling.
What happens in the long run? Who earns more? There is a certain probability that both buyer and seller will earn the same. Because both are dependent on each other. If the buyer keeps on making money then the seller will not sell and vice-versa.
Sellers make profits almost every day but the margin is little. Buyers don’t win more often but when they do the money made is quite hefty. Here is what it means. Sellers might make 100/- each on 5 trades executed. But the buyers will make 500/- in a single trade.
Let's take an example of a hedged option selling strategy known as 'Iron Condor' to get an idea of the ROI (Return On Investment)
In an Iron Condor strategy, which is a multi-leg options strategy, 2 call options and Put options are bought and sold.
Here is an example. At the current market price of Nifty, to implement an Iron Condor, the total margin money required is Rs 36,500. The maximum expected profit of this strategy is Rs 3500. Hence the ROI on this strategy turns out to be more than 9.5% in a time span of 2 weeks. The maximum loss is capped at Rs 1500.
In this way, it is clear that you can make anywhere between 7 to 12% ROI easily in Option selling with a hedged position. Here, both the profits and losses are capped to a certain extent.
Conclusion
Option Selling should be considered as a business and you should not expect unrealistic returns out of option selling. Although the probability of success is 66%, the maximum loss in the case of an option seller is ‘unlimited’. For this, it is necessary to hedge your positions and get the margin benefit in option selling.
