Calculating profit in options trading is one of the keys to becoming a self-sufficient trader.
How do you know if your strategy is working? If it isn’t profitable, it isn’t working.
All traders want to profit. But how do you calculate the profit in options trading? Different types of options trades need different profit-calculating methods.
Let’s dive into how to calculate options trading profits!
Table of Contents
- 1 Options Profitability 101
- 2 What Is the Profit in Options Trading?
- 3 Options Buying vs Writing
- 4 Consider Your Risk Tolerance
- 5 How to Calculate Max Profit
- 6 Alternative Ways to Calculate Profit in Options Trading
- 7 Key Takeaways
Options Profitability 101
Every trading instrument has the possibility of profits and losses. If they didn’t, why would anyone want to trade?
Both call and put options have their own routes to profit.
What Is the Profit in Options Trading?
Profit in options trading is the money you make from a successful options trade or contract exercise. Different options types have different ways to gain profit.
You can divide options traders into two types, buyers/holders and sellers/writers. Here’s how both sides profit from an options exercise:
Call buyers can profit if the underlying asset’s price rises above the strike price. This means they can buy the asset at a lower price, then sell it to make a profit.
Put buyers can profit when the asset price falls under the strike price. That means they can sell the asset at the strike price, then re-buy it at the lower price.
Call sellers can profit if the asset price doesn’t go above the strike price. That means the options contracts they write expire worthless, and they get to keep the premium.
Put sellers can profit if the asset price stays over the strike price. If that happens, the buyer won’t exercise the options contract, leaving the seller to collect the premium.
Buyers can also sell their options contracts at any point before expiration. This is a good way to lock in profits or limit losses — unlike the initial sellers, they don’t carry any obligations from the contracts they sell. Those obligations still fall on the original options seller.
The flip side to profit is risk. Learn more about why options trading is risky.
Options Buying vs Writing
What’s the difference between buying and writing options?
Options buyers have the right, but not the obligation, to exercise the contracts they buy. Options writers must fulfill the option they’ve sold if it’s exercised.
Options buyers don’t want an option to expire worthless — unless they can trade it for a profit at some point along the way. Options writers always want the options they’ve written to expire worthless.
Call option buyers have unlimited profit potential and limited risk. If the option doesn’t look like it will reach the strike price, they can let it expire or trade it.
On the flip side, writers of uncovered calls have potentially unlimited risk along with limited profit potential.
Why do some traders like this risky strategy?
Their premiums are guaranteed. They earn the premiums upfront, regardless of what happens to the contract afterward.
Consider Your Risk Tolerance
Risk tolerance is an essential part of your trading strategy. Here’s a scenario to gauge your risk profile and tolerance:
You buy 10 call options for Company X stock at $0.50 per contract. One options contract represents 100 shares — in total a $50 premium for each contract (not including broker fees). 10 contracts would cost you $500.
Your maximum risk for this trade is $500 — or whatever you have written into your trading plan. Your potential gain is unlimited.
If you sell the same 10 options contracts, you’ll be guaranteed a $500 gain. Here, you are exposed to unlimited potential losses. But you set the rules, and your chances of losing the trade are typically lower.
You have two choices here:
- Risk a small amount of money for potentially large gains.
- Get a guaranteed amount of money but potentially incur big losses.
Each choice has several risks associated with it. Some strategies, like covering the calls you write and spread option trading, will minimize the risk of both.
Looking to delve deeper into options trading? Learn more about spread option trading and margin in options trading.
How to Calculate Max Profit
As an options writer, your premium is your maximum profit. You just have to calculate trading fees (and taxes, if you’re diligent) to calculate your max upside.
As an options buyer, you’ll need a formula to calculate your max profit. There are slightly different formulas for calls and puts.
With calls, you calculate the maximum profit by subtracting the options premium from your stock’s current market price. Here’s the formula:
(Current market price – Strike price) – Premium = Call option profit
Puts use a similar formula, with strike and current market prices flipped around. That’s because put buyers profit by buying at the price of the asset at the option’s exercise, then selling it for the strike price. The formula is:
(Strike price – Current market price) – Premium = Put option profit
Here’s two sample scenarios to get a better feel for both…
Call Options Profit Calculation Example
Let’s say Company X’s stock price per share is currently $30. You think its price will rise, so you buy two call contracts with a strike price of $33 for a $1 premium. That comes out to $100 per contract, plus fees (we’ll leave them out to make it simple).
Before your calls expire, the stock price of Company X rises to $36. So, you exercise the option and buy 200 shares for $33 each, totaling $6,600. Selling the shares at market price means you get $7,200.
So, your max profit would be:
($7,200 – $6,600) – $200 = $400
You’d make a max profit of $400 from this trade. You can also trade your contracts to lock in profits before expiration.
Put Options Profit Calculation Example
Let’s say you think the price of stock in Company Y, currently valued at $40 per share, will fall. So, you buy two options contracts with a strike price of $38 for a $2 premium — $200 each contract.
These are covered puts, because you own the underlying shares.
Company Y’s stock price falls to $33 by expiration. Here’s how much you’d profit:
($7,600 – $6,600) – $400 = $600
The same disclaimer about making trades on the way applies.
Alternative Ways to Calculate Profit in Options Trading
Calculating profit manually is subject to human error. Here are two better methods:
Use an Options Profit Calculator
The easiest way to calculate profits is to use a calculator. Many websites offer online options profit calculator tools. All you need to do is plug in the numbers and let the calculator work its magic.
Some of the more advanced calculators even cover complex option strategies.
Calculate Profit and Losses in Excel Spreadsheets
You can also calculate options trading profit and losses with Excel. It’s easy with their programmable formulas.
Once you have your spreadsheet set up, you’ll just need to enter the numbers. Excel will do the rest for you.
The right options trading broker won’t get in the way of your trades. Read my list of the best options brokers here.
Your options strategy is only as good as the profits you can make through it. You can save yourself a lot of grief later on by calculating your potential profits, and seeing if they can meet your overall trading goals.
Options trading is one of the hardest things you’ll ever learn. Becoming a successful options trader takes hard work and dedication. I recommend getting some expert guidance. In the options world, I think there’s no better mentor than my former student Mark Croock.
Mark has racked up $4 million in career earnings, mostly from trading options. He’s done this by adapting my penny stock trading strategies to options. Before he was a teacher, he was one of my best students — watching every single webinar in the Trading Challenge 2 or 3 times!
Now he’s got his own mentorship program, called the Evolved Trader. Check it out for strategy sessions, trade alerts, a great chat room, and more!
How do you work profit into your options trading plans? Let me know in the comments!
As many of you already know I grew up in a middle class family and didn't have many luxuries. But through trading I was able to change my circumstances --not just for me -- but for my parents as well. I now want to help you and thousands of other people from all around the world achieve similar results!
Which is why I've launched my Trading Challenge. I’m extremely determined to create a millionaire trader out of one my students and hopefully it will be you.
So when you get a chance make sure you check it out.
PS: Don’t forget to check out my 30 Day Bootcamp, it will teach you everything you need to know about trading.