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Sell To Open

Updated on March 26, 2024
Article byPrakhar Gajendrakar
Edited byRaisa Ali
Reviewed byDheeraj Vaidya, CFA, FRM

Sell To Open Meaning

Sell to open is a trade option associated with options contracts where the trade option is typically initiated to open a short position. An options contract is a trade agreement for a potential transaction of an underlying asset at a strike price on a predetermined date.

Sell To Open

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When an investor initiates writing or selling an options contract, it refers to a sell to open trade order. An options contract involves two parties: the buyer and the seller. The buyer takes a long position, and the seller takes a short position.

Key Takeaways

  • Sell to open is an option contract trade order for a short position that generates a premium from its intrinsic and extrinsic value.
  • When an investor is involved in a writing call option, it is with the idea that the underlying asset’s price will decline.
  • In contrast, the investor believes the asset’s price will increase when it is writing a put option.
  • When executed under the right market conditions, it can generate high profits for investors with appropriate trading options.

Sell To Open Explained

Sell to open is an options trading order to initiate a new short position on an underlying asset. In other words, this order is typically associated with opening short positions. Option sellers can sell a call or put options based on the price movement.

The sell-to-open order involves the investor receiving a premium upfront, which comprises intrinsic and extrinsic value. In this case, writing a call option is typically used when the investor expects the underlying asset’s price to decrease. Conversely, the sell to open put option is generally employed when the investor anticipates increasing the underlying asset’s price.

Apart from the premium, an investor can have an additional income from already owned assets, and with writing covered calls, the investor can hedge their portfolio risk. At the same time, one of the key disadvantages is that it becomes difficult when the price does not move as expected or, worse, moves in the opposite direction, which can bring financial risk. Experienced traders and investors are the ones who primarily engage in option trading due to their high-risk nature. In other words, Markets are dynamic, and spotting the right market conditions to take a short position and earn profit, especially in options trading, requires practice and knowledge.

Examples

Let us look into a few examples:

Example #1

Based on the latest good earnings report, Option Seller Jilz believes that the price of Company ABC stock will increase. So, he applied the sell to open put option strategy. He sells a put option contract for Company ABC stock with a strike price. By doing so, John is agreeing with the option buyer. Hence, he has to buy the stock at the predefined strike price if the buyer exercises the option. However, he hopes the stock price will rise above the strike price, allowing the option to expire.

Example #2

In another example, Ann hopes that Company MNM stock price will remain relatively stable or decrease shortly due to negative news about the company. She employs the writing call option strategy by selling a call option contract for Company ABC stock. By selling the call option, Ann agrees to sell his shares of Company ABC stock at the specified strike price per share if the buyer exercises the option. However, she believes the stock price will stay below the strike price, allowing the option to expire.

Sell To Open vs Sell To Close

The differences between the two are as follows:

Sell to OpenSell to Close
Sell options contract to open a new positionSell options contracts to close an existing position
Generates a premium for the sellerresults in a gain or loss
Creates a short positionCloses the opened short position

Sell To Open vs Buy To Open

The differences between the two are as follows:

Sell to OpenBuy to Open
Sell options contract to create a new positionbuy options contracts to open a new position
Generates a premium for the sellerbuyer pays a premium to the seller
More associated with the bearish marketMore associated with the bullish market

Sell To Open vs Buy To Close

The differences between the two are as follows:

  1. Sell to open strategy starts a position, but buy to close order closes an existing position.
  2. Selling options contract generally implies traders opening short positions. In comparison, buy-to-close is to offset a sell to open order, opposite. Selling to open is about opening a new options position by selling options contracts. At the same time, buy to close is about closing out an existing short options position by buying back the same options contracts.

Frequently Asked Questions (FAQs)

1. Is the sell to open put option risky?

It can be risky. If the buyer exercises the option, the investor must buy the underlying asset at the strike price. The investor faces potential losses if the underlying asset’s price falls significantly below the strike price. Additionally, market movements and changes in volatility can affect the option’s value and increase the level of risk involved.

2. Is sell to open bullish or bearish?

It depends on factors such as market scenario, trade bias, and the type of option contract involved. In selling to open, a call option is bearish, as it suggests the seller anticipates the underlying asset’s price will stay stable or fall. Conversely, a put option is seen as bullish, as the seller expects the underlying asset’s price to remain stable or rise.

3. What is a sell to open covered call?

 A covered call position is established when an investor purchases stock and simultaneously sells an equal number of call options on a one-to-one basis. Specifically, writing a covered call is an options trading strategy where the option seller who owns the underlying asset sells a call option on that asset to open a position. This strategy generates income from the premium received for selling the call option, and the option seller is obligated to sell the underlying asset at the strike price if the buyer exercises the option.

This article has been a guide to Sell To Open and its meaning. Here, we compare it with sell to close, buy to open, and buy to close, and explain its examples. You may also find some useful articles here –

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