Sell to Open Vs Sell to Close: What’s the Difference?

What Is the Sell to Open?

A sell to open order is a type of order we use in option trading. It is also known as writing an option contract, and the seller receives the option premium when the trade is executed. Traders can open either a sell to open call option or a sell to open put option. Writing a new option may increase open interest if it creates a new position between two market participants.

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When to Use Sell to Open?

Sell to open is used in both bullish and bearish markets, depending on whether you want to place a put or a call. When you start selling to open, which means you write a new options contract, you will receive the premium and assume the full obligation under the contract.

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Example of Selling to Open With 3 Outcomes

The investor sells to open a call option with a $100 strike price that expires in 3 months and receives a $5 premium. While the option remains open, the stock price is currently $95. From now on, there will be 3 possible situations depending on how the investor manages or closes the short call position before expiration.

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First Outcome: Potential Profit

After 2 months, the stock price fell to $90, and the call option may decrease in value, for example, from $5 to $2.

The investor decides to close the position by using a buy to close order at $2 to realize the profit.

Let’s do a quick calculation:

• First sold at $5

• Bought back at $2

• The profit will be $3 per contract.

• 1 contract represents 100 shares of the underlying stock, so the total profit is $300.

Second Outcome: Break-even

After 2 months, the stock price has increased to $100, but the call option is still priced at $5. The investor wants to close the contract at $5.

Let’s do a quick calculation:

• First sold at $5 

• Bought back at $5 

• The profit or loss is $0, which means the trade breaks even.

Third Outcome: Close the Orders at a Loss

After 2 months, the stock price has increased from $95 to $105, and the call option price has increased to $7. The investor will be closing the order using a buy to close order at $7.

Let’s do a quick calculation:

• First sold at $5

• Bought back at $7

• This results in a $2 loss per contract.

• The total loss will be $200

Pros and Cons of Selling to Open

There are pros and cons of selling to open that traders need to consider to determine whether this suits their trading strategy and how to manage risk when using this option.

What Is the Sell to Close?

Sell to close is an order used to close an options position that you previously bought. If the option price rises above the price you originally paid, you can make a profit by selling to close out the position. If the option price falls below your purchase price, you may incur a loss. You can also use a sell to close order to close a previously purchased put option. Sell to close is used whenever a trader wants to exit a long options position to lock in profits or limit losses.

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When to Use Sell to Close?

When investors buy an option, they can profit from price movements. But to actually realize real profits or avoid losses, you need to sell to close. By doing this, traders exit the option position while locking in profits or limiting losses.

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Example of Selling to Close With 3 Outcomes

A sell to close order is used to exit an existing options position. Let's see an example of a trader who currently holds a $100 call option expiring in 3 months. They bought the option contract for $5 when shares were traded at $95. Here are 3 situations of selling to close:

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First Outcome: Received the Profits

After 2 months, the stock has increased to $110 per share, and the option price has risen from $5 to $12. The investor chose to sell to close the long position and lock in the gains. The order will close at $12, and you will be securing a $7 profit.

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Second Outcome: Breakeven Case

After 2 months, the stock might rise to $100 while remaining at $5. The investor has decided to sell to close this order at $5. This means the trader bought the call at $5 and sold it at the same price, resulting in no profit or loss.

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Third Outcome: Traded at a Loss

If the option loses value after 2 months, the trader may decide to sell to close the position to limit further losses. Let’s say the stock falls from $95 to $90 and the call option decreases to $2. Selling to close at $2 will make you lose $3 per contract. If the investor bought the call at $5 and the closing price was $2, the total loss would be $300.

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Pros and Cons of Selling to Close

Selling to close has advantages and disadvantages that traders should be aware of. Understanding these can help traders know when to use this trading option.

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What Is the Difference Between Sell to Open and Sell to Close?

Sell to open and sell to close might sound similar, but they are different. To help you better understand, continue reading.

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Sell to Open vs. Sell to Close: Objective

• Sell to open is when a trader sells an option contract to open a new short options position and receive the option premium.

• Sell to close is when you sell the option contract that you have been holding. This is to lock in your gains or protect against potential losses.

Sell to Open vs. Sell to Close: Role

• Sell to open is when you are in as a seller or as the option writer. This type of order offers greater flexibility but also involves more risk.

• Sell to close is used by a trader who previously bought an option and wants to exit that long position.

Obligation vs Neutral Outcome of Selling Options

• Sell to open creates an obligation.

  • If you sell a call option, you may be required to sell shares at the strike price if the option is exercised.

  • If you sell a put option, you may be required to buy shares at the strike price if the option is exercised.

• Sell to close does not create new obligations because it simply exits an existing position.

When Should You Use Sell to Open vs. Sell to Close?

• Sell to open occurs when a trader wants to open a short options position, regardless of market conditions.

• Sell to close happens at the end of a trade when the market is changing, and you decide whether to take the profit or limit the losses.

Conclusion

Sell to open vs. sell to close sound similar but have completely different meanings. Both are types of option trading orders that option traders need to understand and can also use with call and put options. A sell to open is used when you first want to enter a contract and gain a premium.

Once you want to lock in your profits or limit your losses, you need to sell to close your position. They both have different advantages and disadvantages, and you need to understand and accept the risks before choosing the trades.