Long Call: How to Trade a Long Call Option? Payoff Charts Explained: Options, Futures, Derivatives & Commodity Trading

Long Call: How to Trade a Long Call Option? Payoff Charts Explained

In this article, we will explain Trading a Call Option, How to Trade a Long Call Option, Risks associated with Long Call Trading and the returns expected from a Long Call Option.. Before we delve into the nitty-gritties of what to trade on, let me first tell you what is meant by Trading Long Option. As explained in our previous article Long Short Options Terminology, when you go long on a option (whether call or put option), you BUY the OPTION. So, in this article, when we say "Trade on LONG Call Option", we mean that we are taking a BUY position and we are Buying a Call Option.

How to Trade a Long Call Option? Explained with Example & Payoff Charts

Now, it is easy to find on internet and books many details which have all the graphs and charts and payoff functions, but one must also notice the pricing part. When you BUY something, you need to pay a price. The same holds true here also. When we go LONG a call option, we are BUYING a call option, so we need to PAY a price. This price is call Option Premium. Long Call Option

In the above payoff function, the price of the option is not taken into consideration. So, the pay off function is NOT correct practically. The reason is that this gives an impression that Buyer of the call option is at ZERO loss because the RED line does not go below the Horizontal axis or ZERO line at all. It gives an impression that if the underlying price ends below the strike price, the loss is maximum of ZERO, i.e. No loss at all.

However, the Long Call option position does not come for free. So for example, if you pay $2 for this call option, that is the price which should be reflected in this payoff function. Long Call Option
So, to include this price, since the buyer is PAYING a price of $2, the payoff function should be shifted DOWN, since payment is NEGATIVE. Hence, we get the realistic BLUE graph, which shows that in case the Underlying Price closes below the strike price on expiry date, the loss to the buyer will be $2, i.e. all the money he used to buy the Long Option Call Position will be lost. Hence, the following graph displays the payoff function shows the profit loss realistically.

Moreover, even if the underlying ends up above the strike price, there is still a region upto which the position will be in loss. Suppose the strike price is $50, the buyer will NOT be in profit until the unerlying closes above $52. At $52 also, it will be break-even point, i.e. no profit no-loss (assuming Zero Brokerage). If you consider the brokerage charges, stamp duties, etc. the realistic BLUE graph will shift further down, and the break even point will shift further rightwards. i.e. the underlying should move up further $53 or $54, to make this a profitable trade to the Buyer.

Here is a video tutorial for Video - Long Call Option Trading Explained with Example
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