Unwinding in the stock market refers to selling your current holding of stocks, options, or other derivatives. You can unwind your holdings for several reasons, such as profit-taking, risk management, or a change in market conditions.
Call unwinding refers to closing out your existing call option position. This process involves selling the call option that you currently hold. You realize any profits or losses associated with the option and free up capital by unwinding the call option.
For example, you hold a call option for a stock with a strike price of Rs 500 with an April expiry. If the stock price has not increased as anticipated, you may decide to unwind your position by selling the call option. By doing so, you can limit their losses and free up capital to invest in other opportunities.
How Does Call Unwinding Work
When an investor or trader decides to unwind their call option position, they must sell the option in the open market. The price at which they sell the option will determine the profit or loss associated with the position. If the investor or trader sells the option at a higher price than they paid for it, they will realize a profit. On the other hand, if they sell the option at a lower price than they paid for it, they will realize a loss.
Importance of Call Unwinding
Call unwinding is an essential strategy for call options traders. By unwinding your call option positions, you can free up capital for other investments and reduce their exposure to potential losses.
Examples of Call Unwinding
Example 1: Call unwinding in a bullish market
Suppose you hold a call option for a stock with a strike price of Rs 500 and an expiration date of one month. If the stock price rises to Rs 600 before the expiration date, you may decide to unwind your position by selling the call option. By doing so, you can realize any profits associated with the option and free up capital for other investments.
Example 2: Call unwinding in a bearish market
Call unwinding in a bearish market refers to closing out call option positions in a downtrend. In a bearish trend, “call options” lose its value because the strict price of the call is now higher than the current market price of the stock. As a result, the call buyer may choose to close out their position by selling their call option before the expiration date.
For example, let’s you purchased a call option on stock XYZ with a strike price of Rs 500 when the stock was trading at Rs 550. However, due to market conditions, the stock price has fallen to Rs 400 before the expiration date of the call option. In this scenario, the call option is now out of the money, and you may choose to unwind your position by selling the call option and realizing your loss.
Unwinding a call option position in a bearish market can be a way for investors to limit their losses and reduce their exposure to further market downturns. By closing out the position, investors can free up capital to invest in other opportunities that may present themselves in the market.
You can also read about What is trading value in stock market, in our latest article.
Difference between Call Unwinding and Call Writing
Call writing, also known as selling a call, is a strategy where you sell a call option. In other words, you give someone else the right to buy your shares at a certain price (strike price) within a certain time period (expiration date). In exchange, you receive a premium payment.
If the stock price remains below the strike price, the call option will expire worthless and you will keep the premium. However, if the stock price rises above the strike price, you will be obligated to sell your shares at the strike price, regardless of how high the stock price rises.
Comparison between Call Unwinding and Call Writing
The primary difference between call unwinding and call writing is the direction of the transaction. In the call writing, you initiate the transaction by selling a call option to someone else, while in call unwinding, you closed out a position that you previously initiated by buying back the call option
Difference between Call Unwinding and Put Unwinding
Call unwinding and put unwinding both involve closing out options positions before expiration. However, they differ in terms of the type of option being unwound. Call options give you the right to buy the underlying asset at a specified price, while put options give you the right to sell the underlying asset at a specified price.
As a result, call unwinding involves selling call options, while put unwinding involves selling put options. You can learn more about put and call options in our other guide on Meaning of CE and PE in options trading.
Call unwinding can affect stock prices in a bearish market, as investors may sell their call options to avoid further losses. This selling pressure can lead to a decrease in the stock price.
However, in a bullish market, call unwinding may not have a significant impact on stock prices, as investors may continue to hold their call options to benefit from the rising prices.
When a call option is unwound, the investor who owns the option sells it back to the market. This can be done for a profit or a loss, depending on the difference between the sale price and the purchase price of the option.
Call unwinding is used by a variety of market participants, including individual investors, hedge funds, and other institutional investors. It is particularly popular among traders who use options to hedge their portfolios, as well as those who use options to speculate on the direction of the market.
Yes, call unwinding can be profitable if you are able to sell the options at a higher price than you paid as a premium. However, call unwinding can also result in a loss if you sell the options at a lower price than they paid for them.