Buy to Close: What It Means and How It Works in Options Trading

recep-bg / Getty Images

Commitment to Our Readers

GOBankingRates' editorial team is committed to bringing you unbiased reviews and information. We use data-driven methodologies to evaluate financial products and services - our reviews and ratings are not influenced by advertisers. You can read more about our editorial guidelines and our products and services review methodology.

20 Years
Helping You Live Richer

Reviewed
by Experts

Trusted by
Millions of Readers

Unlike traditional stock investing, options trading involves the purchase of contracts that give the investor the right, but not the obligation, to buy or sell the contract’s underlying securities at a specific price on or before a predetermined date. 

Buy to close is a strategy that involves buying back an existing short position. It’s an important concept that anyone considering options trading must understand because it can help them minimize risk, limit losses and lock in gains as market conditions change before their options contract expires.

Understanding Buy to Close

Here’s what options traders, or those considering options investing, need to know about buying to close.

Definition of Buy to Close

The buy-to-close concept can apply to several financial instruments, but options traders use the strategy to exit an existing short position. By buying back an option they initially sold, traders can neutralize their existing position.   

How Buy to Close Works

Buy to close entails buying the same kind and amount of an option you previously sold. Consider the following example.

• A trader sells, or writes, a call option of Stock ABC for $5 per contract. 
• ABC stock price rises, and the call option’s price increases to $7 per contract. 
• To limit losses and close the position in anticipation of further appreciation, the trader buys back the call option at $7.
• The trader incurs a loss of $2 per contract but stops the bleeding there. 

Had the stock price fallen to $3, the same trader could have bought back the option at a lower price and locked in a profit of $2 per contract instead.

Buy to Close vs. Other Trading Orders

Buy to close is just one strategy of many in options trading. Here are a few other other order types and when to use each. 

Buy to Close vs. Buy to Open

Traders use buy to open orders to create new options positions instead of closing existing contracts, as with buy to close orders. The two have much in common. For example, both can be used for calls or puts. However, there are two key differences.

• Buy to open establishes a new contract instead of exiting an existing one like buy to close.
• Buy to open orders have a greater reward potential than buy to close orders, which usually capitalize on time decay, the gradual loss of value that options incur as their expiration date approaches. 

Buy to Close vs. Sell to Close

Sell to close is buy to close, but in reverse. This kind of order sells an existing long position to exit a contract instead of buying a short position. 

When to Use Buy to Close

Traders usually use buy to close orders to benefit from time decay, but they can also play a role in more specific options strategies. 

Monitoring Market Conditions

Volatility measures the degree of a security’s price changes in either direction. The greater and more rapid the price fluctuations, the higher the volatility. Traders monitor market conditions and try to anticipate and capitalize on rising or falling volatility. Buy to close orders play a role in several strategies they use to take advantage of price swings in either direction.

Trading Strategies That Use Buy to Close

Here are some of the trading strategies that incorporate buy to close orders. 

• Strangles: In a group of strategies known as strangles, traders use buy to close orders to buy contracts that they previously sold to open a so-called short strangle position. That lets the trader realize profits — or losses — based on the gap between the selling and buying prices.
• Straddles: Traders who anticipate high volatility, but are uncertain about the direction, use straddles to buy put and call options with the same strike price and expiration date simultaneously. In short straddles, buy to close orders let traders buy options that they previously sold.
• Rolling covered calls: “Rolling up” entails buying to close an existing covered call while selling another covered call at the same time on the same stock with an identical expiration date but with a higher strike price.
• Credit spreads: With credit spreads, traders use buy to close orders to buy back the option they sold, called the short leg of the spread, to neutralize the position and exit the contract.

Step-by-Step Guide to Executing a Buy to Close Order

Successful options traders take the following steps to execute buy to close orders.

Choosing the Right Time to Close Your Position

The first step is the trickiest — knowing when to push the button. Your strategy, current positions and anticipation of volatility — or lack thereof — will determine when the time is right to exit your position with a buy to close order. 

Entering a Buy to Close Order on a Trading Platform

Take the following steps to execute a buy to close order regardless of which trading platform you use.

1. Determine which options contract you want to exit, including the expiration date, strike price and underlying asset.
2. Navigate to the page where your trading platform conducts orders.  
3. Select “buy to close” on the order ticket.
4. Specify the details, including the price, order type and quantity. 
5. Review and submit your order.

Reviewing Fees and Costs Involved

Make sure you understand all associated fees and costs, the most substantial of which is usually a broker’s commission, particularly at full-service brokerage houses. Per-contract fees, which are typically $0.65, can also add to your expenses.

Why Traders Use Buy to Close

There are three main reasons that traders execute buy to close orders.

Locking in Profits

Traders can use buy to close orders to secure profits by purchasing an options contract that’s identical to one they previously sold. By doing so, they exit the short position and lock in their gains should the market move against them. 

Preventing Additional Losses

Traders use the same strategy to limit what they believe will be continuing negative volatility. By buying to close a short position, they stop the bleeding and cut their losses on a failing short position.

Expiring Contracts and Avoiding Assignment

Buy to close gives traders the power of clock management and lets them capitalize on time decay. The strategy lets them buy back the same contract they previously sold to neutralize expiring positions.

Share This Article: