Thread by @Quants_Capital

#Options vs #Futures

Although both are #derivatives, Futures and Options are entirely different in terms of their potential #risk and #return , #leverage and how they work.

How different are futures and options?

#Rights vs #Obligations

In #Futures Trading, both the buyer & the seller are #obligated to settle the contracts on or before expiry ie cover shorts or longs or rollover to next contract, regardless of how the underlying asset price moves.

With #Options the buyer has the #Right, but not the #Obligation, to buy (call option) or sell (put option) on underlying asset. The option seller is #passive and must comply with whatever the option buyer does.

Simply option buyers has #right to decide on expiry what should be done if option remains #ITM otherwise it’s goin to #zero.

Whereas sellers want the option to expire worthless or else they have #obligation to buyers request.

#Risk’s & #Returns

Whether you are long or short a futures contract, your potential gain or loss is #unlimited.

The potential gain when #buying an option is #unlimited, but the option buyer's risk is only #limited to the #premium paid.

Buyer of #option ( #call or #put )has to pay #premium and whereas for futures there is no premium to be paid ( not ideally but for assumption) , therefore option buyer’s gain is smaller than futures buyer or seller #return is slightly lesser.

An #option seller's profit is #limited to the #premium received.

The option seller must meet the buyer's decision on exercise, the option seller's #loss can be far #greater than the premium received ie #unlimited.

#Leverage

When #trading futures you are buying a contract worth a #lot by paying a #margin typically 10-20% of the value of contract so leverage is roughly 5-10x in the #position.

When you are an #option #buyer you pay typically 1-2% to buy #premium for the whole #contract which gives you a leverage of 50-100 times on your #capital.

When you are a #seller of options then typically the #margin is #equal to futures trading and so leverage for a seller is same as futures trading.

#Conclusion

#Futures are #leveraged instruments designed to take higher exposures by paying a #margin for the purpose of #speculation #hedging or #arbitrage, having an unlimited risk or reward profile.

Which the #trader needs to oblige on or before expiry of contract.

#Option Buyer has an #enormous amount of leverage on the underlying contract by just paying a small #premium for a similar purpose of speculation hedging or arbitrage, having and #limited risk but an #unlimited reward profile.

#Option seller has an #leverage equal to a futures trader, with a #limited reward whereas an #unlimited risk profile and #zero rights on the contract but need to fulfill #obligations binding on expiry.

#quantscapital #OptionsTrading #derivatives