Options Trading

If you’re looking to diversify your portfolio and feel as though the usual suspects of bonds, stocks and fund are not enough, there exists another option…no pun intended. Yes, options are types of securities that are fairly complex and part of any sophisticated trader’s tool belt. They rest upon a familiar premise: foresee market fluctuations.

Your ability and insight in that field is important with options trading. However, with these slightly more intricate instruments, your predictions have to be more precise. You cannot hang on to an option; it expires at a particular date. But none of this seems relevant unless you understand the fundamentals of options trading. We’ll discuss these below.

What are options?

Options are simply contracts. Say you buy a call option. This means you have the right but not the obligation to purchase an underlying asset at a particular price prior to a particular expiration date. Basically, you lock in a price now and choose to buy it at that frozen price at any point within a specified time frame.

This means you can get great discounts on the asset if its value is relatively high at any point prior to expiration. Now, you can also let the option expire if the price is too low. Another type of option—a put—creates a slightly different scenario. Instead of buying the rights to buy, you buy the rights to sell. All other concepts are in tact, and the whole game gets inverted rather cleanly.

What are the components to an option agreement?

Well, for one, there is the strike price. This is the price at which you agree to buy or sell the underlying asset should you exercise the option. Secondly, there is an expiration date, which is the final date in which you can exercise the option before it becomes invalid and quite frankly…worthless. There is also a pesky little thing called a premium. This is the fee you pay to own the option. Because it is nonrefundable, you can lose this money if an options trade doesn’t pan out in your favor.

How can you make money via options trading?

Well, to make some cash from options trading, you can do any of the following: exercising calls (on assets with increasing value) or puts (on assets with decreasing value) before the expiration date, or…like bonds…trade them prior to full maturation. You can trade an option for its value on the options market and make money that way too.

It’s actually quite up to you how you plan on investing with options trading. Whatever the case though, read the disclaimers. You need to do your homework and research everything before you putting any of your capital into options.

Related Pages

Option Strategies


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