Difference Between Call and Put

Edited by Diffzy | Updated on: May 14, 2023

       

Difference Between Call and Put

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Introduction

Call options and Put options constitute the basis for a vast range of 'Option' strategies developed for hedging, income, or speculation. Options are financial products that give buyers the right to buy or sell an underlying asset at an agreed-upon cost and date. Itlets a trader maintain a leveraged role in an investment at a lower cost than buying stakes of the investment. Every option is a contract between two parties.

There are primarily four types of Options:

  • Call Optiongives a buyer the right, not obligation, to buy the underlying security at the strike cost on or before expiration. 
  • Put Optiongives the owner the right to sell the underlying asset at the strike price on or before expiration.
  • Basket Optiongives a buyer the right to obtain selected currencies in trade for a base currency, either at the prevailing foreign exchange market price or at a pre-arranged rate of dealing. 
  • Compound Optionis an option in which the underlying security is another option. There are two strike rates and two exercise dates.

Basic options strategies may be suitable for certain beginners, but only after all risks are comprehended, as well as how options work. Options can be valuable as a source of leverage and stake hedging. We shall study about Call and Put options in this article.

Call vs Put

Call and Put options are in complete contrast with each other. A Calloption allows its buyer to buy a decided amount of an underlying asset, from the seller by a certain date, for a specific price (the strike price). A Put option gives its buyer the right to sell the underlying asset at a pre-decided strike price before the expiry date.

In case the rates of the stocks increase in a call option, you can complete it or sell the contract for a profit. If it doesn't, you can let the agreement expire and only forfeit the premium you spent. In the Put option, if the rate of the stock drops enough, you can sell your Put option for a profit. You're not bound to execute the contract, so if the price of the commodity doesn't drop enough, you can let the contract expire. Similarly, when the dividend date nears, the Call option loses worth whereas the value of Put option rises when the dividend date approaches.

The differences between Call and Put are given below in the form of comparison in the table given below. It will give you broader of their distinctions through different parameters.

Difference Between Call and Put in Tabular Form

Parameters of ComparisonCallPut
DefinitionCall option provides you the right, not obligation, to buy a stock within a fixed time frame at a fixed strike price.Put option enables you with the right to sell a stock within a fixed time at a pre-determined strike price.
ProfitsThe gains are unlimited in a call option.Since the stock prices will not become zero, the gain is limited.
LossThe loss is limited to the premium paid for a Call option buyer.The maximum loss for a Put option is the strike value minus the premium sum.
CompulsionCall buyers can opt out of the agreement and not perform the purchase if the share falls and there are chances of losses. If the option buyer has done their part, you have to execute your trade. Therefore, there is a compulsion in the bond.
TradeCall option involves buying of stocks or assets.Put option provides selling of assets or commodities.
Stock marketIn Call option, if the stock market hikes, there will be a profit.If the stock market rises, there will be a loss in a Put option.
Investor expectationThe investor in a call option expects that the stock prices will increaseIn Put option, the buyers expect that the stock prices will decrease.
AnalogiesSecurity deposit – permitted to take something at a definite price if the investor indicates.Insurance – offering protection against a loss in value.
DividendWhen the dividend date nears, the Call option loses worth.The value of Put option rises when the dividend date approaches.

What is Call?

Call Options are financial agreements that give the option buyer the right, but not the obligation, to buy a stock, commodity, bond or other asset at a fixed price within a specific time. This option gives the owner a long position in the given financial asset. The seller is bound to sell the financial instrument to the buyer if the buyer decides. It provides the seller with a short position in the given asset. 

Types of Call 

  • Long Call options-It is a standard call option in which the buyer has the right to buy a stock at a strike price in the future. It lets you plan to buy stock at a lower price. The losses of the long call option are limited to premiums while the profits may be unlimited.
  • Short Call options-It is the opposite of long call options. The seller promises to sell their assets at a fixed strike cost in the future. Short Call options can be used for covered calls by the Option Dealer, or in which the seller already holds the underlying stock for their Options. 

Uses of Call

  • Investors use call options to yield income through a 'covered call' technique. This strategy concerns possessing an underlying stock while at the same time writing a Call Option, or providing someone else the right to buy your stock. This approach induces additional income for the investor and can also limit gain potential if the underlying stock price increases sharply.
  • It gives buyers the vision for obtaining consequential openness to a stock for a relatively cheap rate. They can provide considerable gains if a stock rises and at the same time, they can also result in a total loss of the dividend if the Call option expires.
  • Investors can buy and sell different Call options simultaneously, forming a Call spread. These will restrict both the potential profit and loss from the strategy but are more cost-effective in some cases than a single Call option.
  • Investors use Call Options to modify portfolio budgets without even buying or selling the underlying stake.

What is Put?

A Put option is a contract giving the Option buyer the right, but not the obligation, to sell a fixed amount of an underlying stake at a predetermined cost within a prescribed time frame. Put options are traded on diverse underlying assets, including- stocks, currencies, bonds, commodities, and indexes. Put option outlays are influenced by modifications in the cost of the underlying investment. 

Features of Put

  • An investor buying a Put option might profit if the underlying asset's price remains the same or falls fairly. As a result, a Put option trader is more likely to gain than to lose.
  • If the rates of the underlying stock or investment fall, a put option becomes more valuable. On the other hand, a Put option loses value as the price of the underlying commodity increases. 
  • It is employed in a risk management strategy which is known as the Protective Put - a type of asset insurance or barrier that ensures that losses in the underlying asset do not exceed a predetermined quantity. 
  • A short position is made in the stock if the investor does not own the underlying asset and exerts a Put option.
  • You can exercise your Put Option in an American option if you sell your stakes at the strike price before the expiration date. You can only exercise your Put option on the end date in a European option.
  • If the stock price drops, sellers lose capital. They must buy the stock at the strike rate but can only trade it at a lower price. If the stock price increases, they profit since the buyer will not perform the Option. The amount is kept by the 'Put sellers'.
  • 'Time to expiry' is an essential parameter affecting the option premium time value. Time to expiry does not have an impact on the innate value, but it has a significant influence on the time value of the option. Thus, it impacts the option premium prominently. The longer an option is before it ends, the more time the underlying market has to pass the strike price and vice versa.

Types of Put

  • European Put option- A European Put option provides the put option holder with the right to sell an asset at a pre-decided stake price. A European option can be exercised only on expiration dates. 
  • American Put option- The American Put option can be exercised before the expiration date as well when the price of the asset falls below the strike price.

Main Differences Between Call and Put (In Points)

  • The investors buy Call option when they think the cost of the underlying asset will rise and they sell call option if they believe it will decrease. Investors purchase Put options when they consider the price of the underlying asset will fall and sell puts if they believe it will rise.
  • A Call enables the buying of an Option, whereas a Put will allow the selling of an option.
  • The Put option will extract money when the rate of the underlying asset is falling, whereas the call option yields money when the value of the underlying asset is climbing.
  • The possible gain in a Call option is unlimited due to no mathematical restriction in the rising cost of any underlying, whereas the potential profit in a put option will be restricted.
  • In case you’ve sold a Call option on stakes you do not own, you’ll be impelled to buy those shares at the exceedingly high market price and sell them at the low strike price, and therefore suffering an unlimited loss. On the contrary, when you deal with a Put option, you are providing the option holder with the freedom to sell your stakes at the strike price. If the stock price drops below the strike price or the exercise price, the purchaser of the Put option can exercise the agreement, forcing you to buy shares at an exorbitant price than you would have in the market.
  • For the seller of the Call option, the break-even point will be the strike price of the deal plus the dividend obtained. For the seller of the Put option, the equalizer will be the strike price of the Put sale minus the premium received.
  • Having been bound by a single contract, the buyer of a Call option will look for an increase in the price of an asset. The greater the rise the better it is for him because the cost of the Call option also has to be concealed. Contrarily, in the Put option the investor hopes the stock price to decrease.

Conclusion

At last, Call and Put are two types of Options used in the field of finance and stock exchange. They both are visibly different from each other. The major difference between them is that, Call option provides buying of assets, commodities, or stocks. In the Put option, assets and commodities are sold. In the Call option, if there is a hike in the stock market, there will be a profit. On the other hand, if the stock market rises, there will be a loss in a Put option.

While buying stocks, the possibility of the entire investment stake getting wiped out is usually low. On the other hand, Options generate very high returns if the price advances drastically in the direction that the investor desires.

Taking a birds-eye view of this whole process, we come to know that the Call option and Put option are parts of the same cycle of options agreements. The individual who buys the Call option has to buy while the person who buys the Put option has to sell the shares. The price is pre-decided; based on market fluctuations, the profits are earned.

There are many points covered in this article related to the features and uses of Call and Put. The difference between Call and Put is also given in a detailed way.

References

  • https://en.wikipedia.org/wiki/Call_option
  • https://www.businessinsider.com/personal-finance/put-option?IR=T
  • https://corporatefinanceinstitute.com/resources/derivatives/options-calls-and-puts/

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"Difference Between Call and Put." Diffzy.com, 2024. Thu. 29 Feb. 2024. <https://www.diffzy.com/article/difference-between-call-and-put>.



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