Foreign exchange options are a relative unknown in the retail currency world. Although some brokers offer this alternative to spot t💝rading, most don't. This means that many 🐟forex investors and traders are missing out.

FX options can be a great way to diversify and even hedge an investor's spot position. Or, they can also be used to speculate on long- or short-term market views rather than trading in the currency 澳洲幸运5官方开奖结果体彩网:spot market.

Understanding Forex Options

Structuring trades in currency options is actually very similar to doing so in equity options. Putting aside complicated models and math, let's take a look at sꦜome basic FX o🔜ption setups that are used by both novice and experienced traders.

Basic options strategies always start with 澳洲幸运5官方开奖结果体彩网:plain vanilla options. This strategy is the easiest and simplest trade, with the trader buying an outright call or put option in order to express a directional view of the 澳洲幸运5官方开奖结果体彩网:exchange rate.

Placing an outright or 澳洲幸运5官方开奖结果体彩网:naked option positi💫on is one of the easiest strategies when it comes to FX options.

Basic Use of a Currency Option

As an example of how to use forex options, consider the following chart of the AUD/USD pair. We can see 澳洲幸运5官方开奖结果体彩网:resistance formed just below the key 1.0200 AUD/USD exchange rate at the beginning of February, confirmed by the technical double top formation. This is a great time for a 澳洲幸运5官方开奖结果体彩网:put option. An FX trader looking to short the Australian dollar against the U.S. dollar simply buys a 澳洲幸运5官方开奖结果体彩网:plain vanilla put option like the one below:

ISE Options Ticker Symbol: AUM
Spot Rate: 1.0186
Long Position (buying an in the money put option): 1 contract February 1.0200 @ 120 pips
Maximum Loss: Premium of 120 pips

Profit potential for this tra🀅de is infinite. But in this case, the trade should be set to exit at 0.9950—the next major support barrier for a maximum profit of 250 pips.

ISE Options Ticker Symbol: AUM
Spot Rate: 1.0186
Long Position (buying an in the money put option): 1 contract February 1.0200 @ 120 pips
Maximum Loss: Premium of 120 pips

Profit potential for this trade is infinite. But in this case, the trade should be set to exit at 0.9950—the next major support barrier for a maximum p🉐rofit of 250 pips.

The Debit Spread Trade

Aside from trading a plain vanilla option, an FX trader can also create a spread trade. Preferred by traders, spread trade💎s are a bit more complicated but they do become easier with practice.

The first of these spread trades is the 澳洲幸运5官方开奖结果体彩网:debit spread, also known as the bull call or bear put. Here, the trader is confident൲ of the exchange rate's direction, but wants to play it a bit safer (with a little less risk).

I🌠n the chart below, we see an 81.65 support level emergi✃ng in the USD/JPY exchange rate in the beginning of March.

This is a perfect opportunity to place a 澳洲幸运5官方开奖结果体彩网:bull call spread because the price level will likely find some support and climb.Implementing a bull call deb🎐it spread would look something like thiꦆs:

ISE Options Ticker Symbol: YUK
Spot Rate: 81.75
Long Position (buying an in the money call option): 1 contract March 81.50 @ 183 pips
Short Position (selling an out of the money call option): 1 contract March 82.50 @ 135 pips

Net Debit: -183+135 = -48 pips (the maximum loss)

Gross Profit Potential: (82.50 - 81.50) x 10,000 (units per contract) x 0.01 pip = 100 pips

If the USD/JPY 澳洲幸运5官方开奖结果体彩网:currency exchange rate crosses 82.50, the trade stands to profit by 52 pips (100 pips – 48 pips (net debit) = 52 pi🎀ps)

The Credit Spread Trade

The approach is similar for a 澳洲幸运5官方开奖结果体彩网:credit spread. But instead of paying out the premium, the currency option trader is looking to profit from the premium through the spread while maintaining a trade direction. This strategy is sometimes referred to as a bull put or 澳洲幸运5官方开奖结果体彩网:bear call spread.

Now, let's refer back to our USD/JPY exchange rate example.

With support at 81.65 and a bullish opinion of the U.S. dollar against the Japanese yen, a trader can implement a bull put strategy in order to capture any upside potential in the 澳洲幸运5官方开奖结果体彩网:currency pair. So, the trade would be broken down like this:

ISE Options Ticker Symbol: YUK
Spot Rate: 81.75
Short Position (selling in the money put option): 1 contract March 82.50 @ 143 pips
Long Position (buying an out of the money put option): 1 contract March 80.50 @ 7 pips

Net Credit: 143 - 7 = 136 pips (the maximum gain)

Potential Loss: (82.50 – 80.50) x 10,000 (units per contract) x 0.01 pip = 200 pips
200 pips – 136 pips (net credit) = 64 pips (maximum loss)

As anyone can see, it's a great strategy to implement when a trader is bullish in a 澳洲幸运5官方开奖结果体彩网:bear market. Not only is the trader gaining from the 澳洲幸运5官方开奖结果体彩网:option premium, but they are also avoiding the us♉e of any real cash to implement it.

Both sets of strategies a🐽re great for🎶 directional plays.

Option Straddle

So, what happens if the trader is neutral against the currency, but expects a short-term change in 澳洲幸运5官方开奖结果体彩网:volatility? Similar to comparable equity options plays, currency traders will construct an option straddle strategy. These are great trades for the FX portfolio in order to capture a potential breakout move or lulled pause in the exchange rate.

The straddle is a bit simpler to set up compared to credit or debit spread trades. In a straddle, the trader knows that a breakout is imminent, but the direction is unclear. In this case, it's best to buy both a call and a put in order to capture the breakout.

The figuꩲre below exhibits 🀅a great straddle opportunity.

Seen above, the USD/JPY exchange rate dropped to just below 82.00 in February and remained in a 50-pip range for the next couple of sessions. Will the 澳洲幸运5官方开奖结果体彩网:spot rate continue lower? Oꦉr is this consolidation coming before a move higher? Since we don't know, the best b𒐪et would be to apply a straddle similar to the one below:

ISE Options Ticker Symbol: YUK
Spot Rate: 82.00
Long Position (buying at the money put option): 1 contract March 82 @ 45 pips
Long Position (buying at the money call option): 1 contract March 82 @ 50 pips

It is very important that the 澳洲幸运5官方开奖结果体彩网:strike price and expiratio𒆙n are the same. If they are different, this could increase the cost of the trade and decrease the likelihood of a profitable setup.

Net Debit: 95 pips (also the maximum loss)

The potential profit is infinite – similar to the vanilla option. The difference is that one of the options will expire worthless, while the other can be traded for a profit. In our example, the put option expires worthless (-45 pips), while our 澳洲幸运5官方开奖结果体彩网:call option increases in value as the spot rate rises༒ to just under 83.50 – giving us a net 55 pip profit (150 pip profit – 95 pip option premiums = 55 ✨pips).

The Bottom Line

Foreign exchange options are a great instrument to trade and invest in. N📖ot only can an investor use a simple vanilla call or put for hedging, they can also refer to speculative spread trades when capturing market d💎irection. However you use them, currency options are another versatile tool for forex traders.