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Understanding Options Trading
Arcadia Weekly Aug 21, 2020
Courtesy of Jason Briscoe
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Investors need brokerage accounts to invest in the stocks that can potentially result in life-changing profits. However, it is important to pick a broker that allows you to have access to different kinds of investments that are important to you. Nowadays, most brokers can meet the simple needs, but you should always be careful to choose brokers that can not only provide you to trade, but offer the services needed to make smart decisions in those areas. One way to up your investing game is to look into the options market. Options are different than just trading stocks, it can come with some real advantages for investors as well and potentially produce great losses or gains. In this article, we’ll discuss what options trading is and how it can benefit you.
What Are Options?
Options is a contract between a buyer and aseller relating to a stock or other investment. The buyer has the right to dowhatever the contract specifies within the period of time that is set by theoption. If the buyer exercises the option, the seller must follow theinstructions set by the option.
Knowing what calls and puts are is importantbefore starting your first trade. According to the experts at Money Morning, “Options trading can be one of the most lucrative ways toplay the market, but there’s a bit of a learning curve. Many traders dive inhead first once they learn the basics of calls and puts.” For example, acall option on a stock gives the option buyer the right to buy a set number ofshares which is typically 100 per contract at a given price at any time beforea specified expiration date. The option seller must sell the stock of theoption buyer if the buyer exercises the option. The prices of a contract areconsidered ‘premiums’ so let’s say you’re buying a call on Apple (APPL) whichmeans you’re betting that the underlying stock is going up, the premiumincreases as the stock price increases and you profit off of it if you decidethat it’s smart to just take profits. This means that the buyer of the optionhas the right to exercise that contract, but is under no obligation to do so.Therefore, option buyers only exercise the option when it is smart to do so. There areseveral different ways to trade options. Besides call options as describedabove, put options give the option buyer the right to sell stock at a givenstrike price, protecting the option buyer from losses in a stock position.
The Benefits of Options Trading.
There are many reasonswhy options trading can be a great addition to your trading strategy. Here aresome:
- Options giveyou leverage in your investing. An options contract can give you cheaperexposure to a stock than buying shares outright, resulting in both profits andlosses if the stock price moves accordingly.
- Options canalso lessen the risk in your overall portfolio. You can combine a put option tosell stock at a specific strike price with ownership of the shares themselves.This trade is known as a protective put which gives you the upside if the stockprice rises but protects you from a portion of the losses if the stock pricefalls.
- Options can offer a source of portfolio income.By selling options rather than buying them, you’re the one to receive thepayment for the options premium. If the contract goes unexercised, you get tokeep that payment.
Choosing the Right Broker.
For those wanting to get started with optionsyou need to find a good broker. It’s great to finda broker that offers low commissions. Some brokers have different commissionrates for options than they have for stocks. It is also important to go with abroker that has great customer support. Option traders are more likely to haveto talk to a customer service agent in order to get their trades done the waythey want. It can be frustrating having a brokers customer service representativenot really understand what you’re trying to do with your options trading.
If you’re fairly new to trading, it may be worth to start off with Robinhood options trading and as you gain experience, you can look for other brokers that offer special tools for evaluating if you feel like it is not cutting it.
Before getting into options trading, make sure that you understand what it is before buying a contract. It is important to choose a broker that also allows this so be sure to do your research to make sure that it suits your needs. Think of options trading as gambling, it’s important to understand risk management. Only step into this market with money that you are comfortable losing if things go bad.
