The Golden Rules for Call Option Buyers

By Paul Mladjenovic

The call option is a powerful tool for the bullish. Here are some golden rules for call option buyers with which you should become familiar:

  • Call options expire worthless if you aren’t careful.

  • Note that you don’t have to be an expert in how options work to make money with them. The real secret is in being proficient with the underlying asset.

  • There are options on all sorts of securities and assets, so make sure you specialize. Don’t try to master stocks and commodities and currencies. The most successful practitioners focus on a particular asset class and know it inside and out.

  • After you master a particular asset class, become proficient in a few basic option strategies. For some folks, just mastering covered calls makes a huge difference in their overall success.

    To practice option strategies before you risk real money, consider doing some simulated trading.

  • When choosing which call option to buy, get the longest time frame that you can afford. The longer the time frame, the greater your chances of success.

  • If you choose calls that are out of the money (OTM), it’s better to get one option that’s really close to the strike price than two that are far away. Get closer to the money, and you increase your chances of success. Use this golden rule to augment the preceding rule.

  • Use technical analysis where applicable. One of my favorite tools is the Relative Strength Index (RSI), which helps you gauge whether a stock or other asset is oversold or overbought. The optimal time to buy calls is when the underlying asset is oversold (having an RSI reading of under 30).

  • Unless you’re desperate to buy a particular option and need to do a market order, use a limit order to get a better price. If an option has an ask price of $1.50, for example, do a limit order for $1.50 or even a little lower. Most of the time, you’ll get your price, especially if the trading session isn’t volatile.

  • Be a contrarian where possible. When everyone is bearish, you can get call options dirt-cheap. Just make sure you know the difference between bull and bear markets, or you may end up buying lots of call options that expire worthless.

  • Stagger your option purchases if possible. In other words, if you’re devoting $5,000 to buying call options, consider deploying a third now and the rest later, after a few weeks of watching the trading action. Use this approach especially if you’re a novice and you need to slowly test the markets.

  • Diversify your options, even if you’re speculating. If you buy 50 call options on a single stock or asset and you guessed right, you’ll make a fortune! But if you’re wrong, you’ll lose big-time, even if the options are cheap. Consider different options on different securities; have some bullish strategies and some bearish strategies as well. This approach increases your chances of having winning positions in your portfolio.