Options Trading Examples

Options are financial instruments used by savvy investors to make money through stock market speculation. Like any such tool, it offers its users the potential to grow and diversify their portfolio through some carefully selected investment opportunities. However, when dealing with options it always pays to be cautious. You can make a lot of money by knowing what you’re doing, but at the same time, the reverse is true. You can lose plenty of money by not having a clue what you’re up to out there on the open market.

Thankfully, getting the whole picture doesn’t have to be a painful process. Plenty of resources are available to teach you strategy, analysis, and more. But if you’re still struggling with what exactly an option is, the best idea is to look at a number of different options trading examples.  Below is one such option trading example which should help you further grasp each of the variables and components that make an option.

Say you want to buy a brand new car. The owner of the car is willing to enter into an option contract with you. In this situation, the underlying asset is the car—it’s the thing you’ve got your eye on.

Basically the option contract says that you have the right, but not the obligation, to purchase this car in the next three weeks. There’s a catch, however, you must buy it, if you choose to, at the “Strike Price.” The strike price is just a price the buyer and seller agree upon. If you want to “exercise your option” (“buy the car,”) then you’re going to have to buy it at the strike price.

Now say you sit on this option. You have three weeks to make up your mind, as the car is on reserve. Say the car goes up in value tremendously the Tuesday after making the option agreement. This could happen for a variety of reasons (in real stock option trading, it’s because the underlying asset’s stock price has gone up,) say it’s been declared a rare antique. It doesn’t matter how much the buyer wants the car or how much he wants to sell it for—you can still purchase it for the agreed upon strike price.  You have a contract.

Say, alternatively, however, a giant branch falls on the vehicle, rendering it of lesser value. In this situation, you’d naturally be less inclined to want the car. Since you have no obligation to buy it, you can let your option expire.

Know, however, that to purchase this option, you’ll have to pay a fee known as the option “premium.” This is essentially your investment.

Don’t worry if you’re still a bit confused.  That’s just one example.  As you look at additional options trading examples it will all start to make more sense.

Related Pages

Options Trading

Options Trading Strategies


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