Arranging the Payoff diagrams in the above fashion helps us understand a few things better.

Let
me list them for you –

1. Let us start from the left side – if you notice we have stacked the payoff diagram of Call Option
(buy) and Call option (sell) one below the other. If you look at the payoff diagram carefully, they
both look like a mirror image. The mirror image of the payoff emphasis the fact that the risk-
reward characteristics of an option buyer and seller are opposite. The maximum loss of the call
option buyer is the maximum profit of the call option seller. Likewise the call option buyer has
unlimited profit potential, mirroring this the call option seller has maximum loss potential
2. We have placed the payoff of Call Option (buy) and Put Option (sell) next to each other. This is
to emphasize that both these option variants make money only when the market is expected to
go higher. In other words, do not buy a call option or do not sell a put option when you sense
there is a chance for the markets to go down. You will not make money doing so, or in other
words you will certainly lose money in such circumstances. Of course there is an angle of
volatility here which we have not discussed yet; we will discuss the same going forward. The
reason why I’m talking about volatility is because volatility has an impact on option premiums
3. Finally on the right, the payoff diagram of Put Option (sell) and the Put Option (buy) are stacked
one below the other. Clearly the payoff diagrams looks like the mirror image of one another. The
mirror image of the payoff emphasizes the fact that the maximum loss of the put option buyer is
the maximum profit of the put option seller. Likewise the put option buyer has unlimited profit
potential, mirroring this the put option seller has maximum loss potential
Position also
Your Market View Option Type Other Alternatives Premium
called
 Bullish Call Option (Buy) Long Call Buy Futures or Buy Spot Pay

Flat or Bullish Put Option (Sell) Short Put Buy Futures or Buy Spot Receive

Flat or Bearish Call Option (Sell) Short Call Sell Futures Receive

Bearish Put Option (Buy) Long Put Sell Futures Pay

4. Perhaps this is the reason why Nassim Nicholas Taleb in his book “Fooled by Randomness”
says “Option writers eat like a chicken but shit like an elephant”. This means to say that the
option writers earn small and steady returns by selling options, but when a disaster happens,
they tend to lose a fortune.

 Buy a call option or sell a put option only when you expect the market to go up
 Buy a put option or sell a call option only when you expect the market to go down