Selling options

Somewhere in your first year someone will show you a screenshot of consistent weekly premium income and tell you that selling options is how professionals actually make money.

The claim is not wrong. It is dangerously incomplete.

Why it works#

Markets spend most of their time not moving much. Options are priced for a distribution of outcomes that includes large moves — so on any given week, the option seller is usually collecting for a move that does not arrive.

There is also a persistent gap between implied volatility (what options are priced at) and realised volatility (what actually happens). Implied tends to run slightly higher, because buyers pay a premium for protection and certainty. That gap is the seller's structural edge, and it is real.

So the economics are genuine. This is not a trick.

Why it ends accounts#

The same structure that produces the wins produces the failure.

A seller collects a small, capped amount and carries a large, uncapped risk. Run that repeatedly and you get a long sequence of small wins punctuated by rare, severe losses.

Two things follow, and both are psychological rather than mathematical:

Consistent wins feel like skill. Twenty green weeks is powerful evidence — of the market being quiet, which is what it usually is. It says almost nothing about what happens when it is not.

Confidence raises size. Nobody keeps selling one lot after six profitable months. Size drifts up, quietly, without a decision being made. So when the severe loss arrives, it arrives against the largest position the account has ever carried.

Margin is the real constraint#

Selling options requires margin, and margin is not a fixed number.

It rises with volatility. The exchange raises requirements exactly when markets get violent — the moment your position is already losing.

It rises as the position moves against you. A short option going in the money demands more.

Those two compound. A position that used ₹2 lakh of margin on Monday can demand ₹3.5 lakh on Thursday, and you will be asked for it at the worst possible moment.

Naked versus defined risk#

Naked selling — selling an option with no protective long leg. Maximum margin, maximum premium, and no floor under the loss. For a naked call, no ceiling at all.

Defined-risk selling — a credit spread. You buy a further-out option as insurance. You collect less, but the loss has a floor and margin is far smaller.

The difference in a crisis is total. A naked short call in a violent gap up has no cap on what it can cost. The same position with a long leg 300 points higher loses a known, survivable amount.

For anyone who has not personally traded through a violent move, defined risk is the only sensible starting point. The premium you give up is the price of finding out what a bad day feels like without it being your last one.

Gamma is the mechanism that gets you#

Watch what happens to a short option as expiry nears.

Set the type to call, days to 2, and switch the chart to gamma. Note the spike at the strike.

That spike is your problem. A short option with a delta of 0.15 feels like almost no directional exposure. As spot approaches the strike near expiry, gamma converts that 0.15 into 0.40, then 0.70, faster than you can react.

Your position becomes a different position — several times the exposure you agreed to take — without you doing anything.

This is why experienced premium sellers are careful about the final days. The theta is richest there, and so is the gamma. You are being paid more precisely because the risk is higher.

Sizing a short position#

The position sizer applies here with one adjustment: for a short option there is no natural stop price, so you size against a defined adverse move instead.

Set mode to futures as a proxy for undefined-risk exposure, and set the stop to a level that represents a genuinely bad day — not the move you expect, the move you are afraid of.

If the answer is zero lots, that is the honest signal that this position does not fit this account, regardless of how good the premium looks.

A workable discipline#

If you are going to sell premium, these five rules do most of the work:

1. Defined risk only, until you have traded through a real shock.
2. Constant size. Decide it before the wins start and do not revise upward during a good run.
3. Half your margin stays free.
4. Sell into high implied volatility, not low. Check VIX against its recent range.
5. Have an exit rule written down — a loss multiple of the credit received, e.g. exit at 2× — and honour it mechanically.

That fifth one matters most. A short option's loss grows fastest exactly when you are most inclined to hope it comes back.