Buying calls is a popular strategy for both novice and experienced options investors. One reason you might purchase a call is to profit from an increase in the price of the underlying security by locking in an appealing purchase price. If the stock's price rises before expiration, you may be able to sell your option for more than you paid for it, or you can exercise the option and purchase the security for less than market value.
A major appeal of buying a call is that you're able to leverage your investment, with the possibility of realizing a much higher percentage return than if you had made the equivalent stock transaction. For example, if you purchase 100 shares of NRQ stock for $5 a share, you'll make an initial investment of $500. If, over the next year, the stock's price rises to $10 and you sell your shares, you'd make a $500 profit or 100% return (100 shares x $10 a share = $1,000 - $500 initial investment = $500 profit, or a 100% return).
Say, on the other hand, you had purchased 10 calls at $0.50 a call on NRQ stock, making the same initial investment of $500. If the strike price is $7 and the stock's price rises to $10, your option would be in-the-money by $3. If you sold at this point, the 10 contracts would have a $3,000 value, or $2,500 more than you originally invested and a 500% return.
However, just as your investment may result in significant percentage returns, it may also result in a significant loss. For instance, if the stock's price fell to $4 a share and you sold at that point, you would lose $100, or 20% of your original investment. Had you bought the call options and let them expire because they were out-of-the-money, you'd have lost $500, or 100% of your original investment.
Long Call Graph
In the graph shown here, the vertical (Y-axis) represents profit and loss, while the horizontal (X-axis) shows the price of the underlying stock. The blue line shows your potential profit or loss given the price of the underlying.
Examples exclude transaction costs and tax considerations.
Options involve risk and are not suitable for all investors. Detailed information on our policies and the risks associated with options can be found in Scottrade's Options Application and Agreement, Brokerage Account Agreement, and Characteristics and Risks of Standardized Options (available at your local Scottrade branch office or from the Options Clearing Corporation at 1-888-OPTIONS or by visiting www.888options.com). All option accounts require prior approval by Scottrade. Market volatility, volume, and system availability may impact account access and trade execution. Supporting documentation for any claims will be supplied upon request.