What is a Long Call?

//What is a Long Call?
What is a Long Call? 2017-10-05T06:36:03+00:00

Definition: A long call is the most common options strategy in which investors buy a call option, expecting the market price of the underlying asset to rise considerably above the strike price before maturity.

What Does Long Call Mean?

What is the definition of long call? Long calls offer a significant growth potential and investors realize gains when the market price rises above the strike price, i.e. the price that the option is exercised. There is also a premium that investors pay to purchase a long call, which is, actually, the cost of the option agreement. When investors expect or speculate a rise in the stock prices, they buy a call option because the probability of the market going up is high.

In contrast, if the market price drops lower than the strike price, the long call holders lose the money they paid to enter the option agreement plus the premium. Therefore, a long call minimizes risk to the amount paid for the call and has an unlimited growth potential.

Let’s look at an example.

Example

Abis owns 250 shares of a construction company, which currently trade at $105. Abis thinks that the stock price will increase because the company has completed a profitable deal with a competitive firm. The market thinks that this acquisition will boost the profitability of both companies.

Abis wants to increase his position in the stock, but he has no money. To buy another 100 shares would cost him $10,500. Therefore, he purchases a long call with a strike price of $130, expecting that the stock price will rise significantly above the strike price before maturity, which is in 35 days. The option is priced at $3, so Abis pays $300 and buys 100 shares of the underlying stock.

If the stock price rises at $165, Abis has the right to exercise his call option and buy 100 shares for $130 and sell them in the open market for $165, thereby realizing a gain of ($165 x 100) – ($130 x 100) = $3,500. So, his net profit is $3,500 – $300 = $3,200

If the stock price drops to $125, Abis loses $300 that he paid for the long call.

Summary Definition

Define Long Call: A long call is a tactic used by investors to increase profits by buying an option when they think the price of the stock will increase.