Category: Options


The Basics of the Put Option

Filed Under: Options by Bill — Comments Off
July 23, 2010

The put option is one of the two choices you have when involved in stock option trading. Many experts say that the put option is perhaps the simplest option of the two—and it also holds a very practical use for people who own stocks. Simply out, when you purchase a put, you gain the right to sell a certain number of security at a specific price before a given time. Here, you actually benefit when the value of the stocks fall. This is why stockholders sometimes buy put options to buffer the loss they will experience in case the value of their stocks does fall.

But how does that work? For example, the stocks of ABC Company is currently worth 40 dollars. At 40 dollars, the stock’s put option contract strikes price should be at two dollars, with the expiry date in a month’s time. You purchase a put option for a single ABC Company stock. A stock option contract encapsulates 100 shares, so the 40-dollar stock is worth 200 dollars in the put stock trading option. If the stock value goes down from 40 to 30 dollars, with your put option that allows you to sell the stock at 40 dollars per share, you earn 10 dollars per share. This gives you 1000 dollars, minus the initial 200-dollar investment. In the end, you will earn 800 dollars in this scenario.

It’s easy to see why this kind of stock market system is lucrative. But it is also risky—although not as much as buying stocks. If the value of the stocks rises from 40 to 50 dollars, you lose 10 dollars per share according to the new value. But at most, you will only lose what you invested, no more and no less. The put option, of course, is best bought by experts in the stock market, since stock option trading only provides a very small margin for success, unless in the usual stock market.

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Improve Returns By Writing Covered Calls

Filed Under: Options by Bill — 1 Comment
July 10, 2010

For most individual investors, the idea of trading options is about as appealing as driving to Las Vegas and putting our entire life savings on the roulette wheel. We all know options trading is risky, but what most investors do not know is that there is a type of options trading that is safer than most investments in the stock market.

Institutional and savvy investors improve their returns by writing covered call options against the stock in their portfolios. Covered calls are “call” options which are written against stock you own, in contracts of 100, meaning, one contract can be written against every 100 shares of stock. The reasons people write contracts against their stock are twofold. First, it increases the return of holding a stock for the long term. Second, it reduces risk by bringing in more return regardless of whether the stock price remains flat.

Stock contracts are not permanent, they expire at a specific time. For example, if an option contract is written for January, it will expire on the third Friday in January. That means that people buy options hoping they will dramatically increase in value, but if they don’t and the expiration date passes, they lose whatever money they put into the contract.

Not so for the owner of the stock. If you own enough stock to write calls against, the premium paid for the contract is yours regardless of what happens to the option. Let’s say, for example, that you sell options for $.25 each against 1,000 shares, which means that someone will pay you $250 for the right to buy your stock from you at a specific price, known as the “strike price”.

The buyers of such an option are hoping that your stock will rise in value enough before the expiration date so they can sell their option contract to someone else for a significant increase, but also, if the stock does go up in value, you will have to sell it to them at the agreed price. That is one of the risks of writing calls, in that it can limit your upside potential, but the returns over the months can greatly enhance your overall portfolio.

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