Every options trader has been there: You’re in a trade, it’s going well. You know you should take profit, but the momentum isn’t slowing down, and you have a gut feeling that this trade is going to continue running in your direction. You don’t want to miss out on more upside — but you don’t want to lose what you’ve already racked up. What do you do? You roll.
Trading options is about risk management — and rolling is a risk management strategy that every options trader must know.
What is Option Rolling?
Rolling is an options strategy in which a trader closes an options position and then simultaneously opens another options position in the same underlying stock, with the same directional bias.
For instance, imagine you already own an Apple (AAPL) call option at the $100 strike, expiring this week. The stock rises, your option becomes profitable, and you want to take that profit while maintaining upside exposure to Apple. You decide to roll up — by selling-to-close your $100 strike call, and simultaneously buying-to-open a $105 strike call at the same expiration.
The $105 strike call is further “from the money,” so it costs less than the $100 strike call, allowing you to pocket the difference. And because they are both call options in Apple expiring on the same date, you still have the ability to benefit if shares of Apple continue to march higher.
As we stated above, the maneuver you just performed is a “roll up.” This isn’t the only type of option rolling strategy.
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Four Types of Option Rolling: Up, Down, In, Out
There are four different types of option roll: Rolling up, rolling down, rolling in, and rolling out.
Rolling up is typically used as a profit taking strategy, and it’s the same one we described above in our Apple example.
Rolling up works like this: Close an option which is closer to the money AND open an option with the same directional bias, in the same underlying stock, on the same expiration date, which is further from the money.
The only difference is that the old option costs more and is closer to the money than the new option. Because the new option — the one you’re opening — is cheaper, rolling up allows you to take some profit off the table while still staying in the trade.
You can think of rolling down like doubling down on your options trade — for use when you’re even more convicted about your trade, but want to adjust the strike.
Rolling down is the opposite of rolling up: Close an option which is further from the money, AND simultaneously buying an option in the same underlying stock, on the same expiration date, which is closer to the money.
In this instance, opposite of rolling up, you are adjusting the strike price closer to the money, and as such, paying more per contract for each unit.
Rolling down can be useful if a trade is moving unfavorably, but you still have a high level of conviction that you will eventually be right. In these cases, where you believe that the underlying stock will still move in your favor, you can consider rolling down.
While rolling up and rolling down were about altering the strikes of an options trade, rolling in and rolling out are about altering the expiration date.
When rolling in, you’ll sell an option with a further expiration date and simultaneously purchase an option (in the same underlying stock, with the same directional bias, at the same strike) with a nearer expiration date.
Like rolling up, rolling in can be used to take some profit off the table, because nearer dated options will always be less expensive than further dated options when all else is equal.
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Just as rolling up and rolling down are counterparts to one another, rolling in and rolling out are opposite as well.
When rolling out, you’ll sell an option with a nearer expiration date and simultaneously purchase an option (in the same underlying stock, with the same directional bias, at the same strike) with a further expiration date.
Rolling out is often used to buy yourself time and mitigate theta decay risk. For instance, if you thought a stock was going to rise by the end of this week, and time is ticking, you might still think the stock is going to rise, but you decide that you want to buy yourself more time. In that case, you might opt to roll out.
One more note about rolling:
These four types of roll can easily be combined. For instance, you might want to roll up and out to the next week in order to both mitigate time decay and take some profit off the table. There’s no “hard and fast rule” that says you can’t combine different rolling strategies for maximum effect.
Taking the Next Step: Managing Risk with Jon Najarian
So now you have the answers to:
- How do I roll an option?
- What are the four types of rolling?
- When are they most often used?
Let’s take it a step further, and answer questions like:
- When should I roll?
- Can I see a real-life trading example of a roll?
- Is there an alternative way to manage option risk other than rolling?
You’ll find that in the followup article to this piece: Rolling 201. In this piece, Jon Najarian explains his no-nonsense risk management strategy in video form, including a simple rule of thumb you can use to know when to take profit or cut losses on any options trade.
We’ll show you a real-life trading example on a live options chain, and we’ll explore another way that many professional options traders including Jon Najarian use to manage risk other than rolling. Click here to see the next free article, Rolling 201: Jon Najarian’s Risk Management Rule Of Thumb.