Options Trading: Options Trading

Options Trading: Options Trading

Option trading is an important part of the financial system. An option contract describes a sale of a security or commodity that will occur at a specified later date and at a specified price if, and only if, one party to the contract--either the prospective buyer or the prospective seller--wants to go ahead with the sale. If the contract is a "call option," the buyer has the right to decide whether or not the sale happens; if the contract is a "put option," the seller decides.

The sale price stated in the option contract is called the "exercise price." The holder of an option contract can wait until the expiration date of the contract to decide whether to exercise the option. The holder of a call option (or of a put option) will exercise the option only if the exercise price is less (or is more) than the current market price for the security or commodity--otherwise, the holder could buy the same thing at a cheaper price (or sell at a higher price) in the open market.

The holder of an option pays a premium for this valuable right when the contract is first agreed to. The other party, known as the option writer, receives the premium. Since the contract requires the option writer to sell or buy upon request of the option holder, the option holder requires the writer to post collateral in a margin account as evidence of the writer's good faith.

The price of an option--its premium--depends on several things, including the price volatility of the item to be bought or sold. As the price volatility of the security or commodity increases, the option to buy it at a fixed price in the future becomes more valuable.

Options can be bought or sold on many different items. In the United States there are option markets for shares of stock, for indexes based on stock portfolios, for foreign currencies, for bonds, for precious metals, and for FUTURES contracts on physical commodities and financial instruments.

Options are traded either through a formally organized exchange or through a less formal over-the-counter (OTC) network of dealers. Whereas option contracts have been sold for centuries, stock-option exchanges in the United States are a recent phenomenon. The oldest, the Chicago Board Options Exchange, began trading options in 1973. Other major options exchanges are in Philadelphia, New York, and San Francisco. The largest foreign-options exchanges are in London, Amsterdam, and Tokyo. In the international OTC option markets, commercial banks and broker-dealers trade options on foreign currency and debt.

Since the introduction of exchange-traded options, options-trading activity has grown tremendously, and a wide range of businesses and households trade options for hedging and speculative purposes. Along with the rise in trading volume have been equally dramatic advances in option pricing and trading techniques. The best known is the Black-Scholes option-pricing model, which values an option by identifying a strategy for trading the underlying security or commodity that results in the same payoff as the option contract.

Options Trading

OPTIONS TRADING

In Options Trading for beginners we are concerned with the basics, the fundamentals of a strong foundation in learning the stock options trade. Equipped with the proper knowledge, you can gain huge profits from stock options. It can be difficult for beginners in option trading to learn the exact difference between trading in the stock market and trading in the stock options market.

Because of the time limits set on each trade, many beginners in option trading have a common misconception that stock options are associated with big risks. The time limit is often seen as a waste of assets. Options trading has proven to be profitable with those traders who go into it with a plan and the knowledge of effective leveraging techniques. Options tend to be chosen for the level of leverage versus the limited amount of risk.

Just as successful business owners must create a business plan, beginners in options trading should also have a plan when entering the trading business. Researching your topic is always a good idea, you can build a plan even around knowledge gained from a simple internet search! Coaching programs are also a great way to find free seminars or websites that allow for guests to take free online classes. So-called "webinars", free websites and many online forums can be found through those programs and they will help beginners in options trading build a basic set of skills and find options open to you for further learning, all before a monetary commitment.

As a beginner in option trading your top priority when building your plan is to ask yourself what you hope to gain from trading stock options. Where is your risk tolerance? How's your portfolio looking? How large of a portfolio to you plan to begin with? As a newcomer the worst thing you could do is expect too much too soon. This is not a get-rich-quick scheme, trading stock options takes time, patience, and a lot of persistence if you hope to see a profitable outcome. You might have to go through several different strategies and suffer a few losses before you find the strategy that works for you, but you can minimize losses with the right set of skills.

When I started, I went into stock options trading with virtually no knowledge, and so I like to help beginners avoid making the same mistakes I did. I had very unrealistic expectations at first. I had experience in the stock market, but when I made the switch to stock options I had four motivations:

1.) Options can be bought and sold at a fraction of the underlying stock's cost.
2.) Without owning the underlying stock you can still control it with the stock option.
3.) You can still profit from the option no matter which way the stock goes.
4.) You can manage risk by hedging the trading position.

I had some bleak experiences, but hopefully I can help you understand why many beginners ultimately fail to be profitable. The biggest mistake I made when I first began was not properly researching the coaching programs. I was eager to become an expert fast, so I signed up for a program that was way beyond my skills. I ended up having to learn from scratch as this was surely not options trading for beginners.

The basics are fundamental to building a higher understanding, I can't stress that enough, it's key to becoming a successful stock options trader. Stock options trading will always carry a risk, just like any other investment, but building on the basics you can minimize your risk and find success!