Definition
Risk Reversal
A risk reversal sells an out-of-the-money option on one side and buys one on the other to express a directional, low-cost view.
A bullish risk reversal sells an out-of-the-money put and uses the premium to buy an out-of-the-money call, creating a leveraged upside bet at little or no net cost — but with downside risk if the underlying falls below the short put. The bearish version reverses the legs.
NSE traders use risk reversals on Nifty, Bank Nifty, and stocks to take a strong directional stance financed by the option skew, since selling the expensive side (often the put) funds the cheaper side. The skew between put and call IV makes the structure especially efficient on Indian indices.
Related terms
- CollarA collar holds the stock, buys a protective put, and sells a covered call to fund the put — capping both downside and upside.
- Synthetic LongA synthetic long replicates owning the underlying by buying a call and selling a put at the same strike.
- Options SkewOptions skew is the pattern of implied volatility differing across strike prices, usually higher for out-of-the-money puts.
- Strike SelectionStrike selection is choosing which option strike to trade based on delta, cost, probability, and the desired risk-reward.
Plain-English explainer from The Dispatch Investors Encyclopedia. General information, not financial advice.