Equodity

Leverage and calculated risk are probably about the best two categories to use to describe equity options trading. Options can be a great way to supplement your return on investment when the stock market has had a flat year or even negative year. When done right options trading can be a fun experience and not to mention profitable. I would not put a large percent of my money into options trading because it is not a very liquid position to be in and it can be VERY volatile. I do view my options account as a wealth building vehicle for the future.

I have been trading options for several years now and have had my ups and downs and of course I didn’t listen when I was told to paper trade until I felt comfortable with my strategy. It would have saved myself money to start off paper trading and maybe even have me further ahead now that I am confident in my trading decisions. While there are many types of “options” when it comes to investing I am only talking about American style options trading on US publicly listed companies.

Options have their own market and theories of the way they should be traded. Stock options are the right to buy a position on a particular stock by a predetermined time for a predetermined price. The amount that you pay for this right is called the premium and the premium is derived by a formula called Black-Scholes which takes into consideration time to expiration, volatility of the underlying stock and the predetermined price which you decide on when buying the option. So that premium will fluctuate based on time and volatility, but the main way the price of the option will change is based on the underlying stock. If you get a good amount of movement in the stock then the premium will change exponentially. That is because you are controlling 100 shares for every one contract that you own. So for someone who is looking to diversify their holdings, it is a bit easier to do so with an option that costs $1 (which means $100 because the price of the option is always multiplied by 100) as apposed to 100 shares of the underlying stock which could be valued at $30 per share or $3,000 at the time of the investment.

So for those of us just entering the investment arena, options can be a great way to make sure we are not exposed to one type of investment.

What are your thoughts on this? Comment here or go post on the Equodity Forums.