Whether you are new to the stock industry or you’ve been trading online for a while, you might have come across the terms “buy to open” and “buy to close”, along with “sell to open” and “sell to close”. With such different trading options available, it is necessary that you comprehend the whole idea behind options trading and several other types of option orders. It’ll get much easier for you to understand what they actually are, why they are used for, and how they work.
You don’t need to know everything about all the options, but it is good to know some of them. We’ll discuss the buy to open vs buy to close option today, which are two of the trading options. These options are used to participate in the options market. Let’s dive in deep to know some more about it.
Buy to Open vs. Buy to Close key takeaways
- Each option mainly represents a contractual agreement between two parties.
- Options give traders authority to buy or sell the assets at a predetermined price for a specific period of time.
- Each option can be treated differently because the contractual parties are betting on price based on future speculations.
- A premium deposit can be used for locking the options for a buyer.
- Most importantly, a strike price is a preset price in which both seller and buyer agree upon and maintain their options around it.
Buy to open vs buy to close
To participate in the options market, either you can buy or you can sell. But things get more difficult when more terms are attached to them like open and close.
What is buy-to-open?
When you open a position in options trading, the term ‘open’ will refer to your position. It means that you are opening a position by buying an option. You must require a buy-to-open order whenever you wish to buy a long call. Through this, participants in the trade market will presume that you are making a large order. Although, by using buy-to-open order, even if you are not purchasing a large order, a smaller one will indicate your position in the options trading market. Possibly you can use the option for hedging or spreading your potential in the trading market.
The buy-to-open is used to purchase both put and a call and works the same for both. When the buy-to-open is used for purchasing call position, it means that the purchaser is looking for the actual cost of the underlying assets to rise. When this happens, this automatically elevates the value for the call option.
On the other hand, when a buy-to-open option is used for purchasing the put position, it means that the buyer is looking for the stock price to fall, which also increases the option value.
Whether you opt for the buy-to-open order to buy call or put, to shut down the position you may need to buy the option order back by executing sell to close order.
What is buy to close?
The term buy-to-close differentiates from buy-to-open in two different ways:
First, that you mostly trade for the position in the option contract, which had been created in the past.
Second, buy-to-close option order is used when you require to close the position instead of opening a new one.
In simpler words, when there’s a placement of sell-to-open order (which involves the formation and sale of put or call option), buy-to-close will be required to close the position for both ways.
The trader is placed in the short position when put and call positions are sold and provides the buyer with money upfront for the formation of another option called a premium.
The position of a buyer may be placed in the profit or loss and the buyer might need to close all the positions before they expire. To close them up, the buyer needs to buy the options back that were sold. And then again, the buyer needs to execute a buy-to-close order.
Whenever this happens, the buyer will be paying for the person who’s going to take over the position. The new person or the position owners would be holding them till their expiration dates to potentially exercise them to be a profit or loss position for him, or close them before the expiration date following the same Buy-to-close order option.
An order of buy-to-open comes into play when a buyer wants to enter in the new long position where they bet and expect the values of the options to rise.
A buy to close option on the other side is used when the trader or buyer of the positions wants to close the short call or put positions that were already sold.