Watch our video and learn how to trade options.
Here’s a fact that may come as a surprise to you: You can trade the large-cap stocks like Apple (AAPL), Facebook (FB) and Tesla (TSLA) for just a few hundred bucks using options. How cool is that? While at a glance trading options strategies might look fairly straightforward there’s a bit more to it than simply buying and selling contracts.
How to Trade Options 101: Calls and Puts
Call prices: These prices are for investors who think the shares will go up. They give the right but not the obligation for an investor to buy the underlying shares.
Put prices: These prices are for investors or traders who think the shares will go down. They give the right but not the obligation for an them to sell at a pre-agreed price.
1. This Is How a Call Option Works
So lets say that an Apple (AAPL) option contract has a fixed expiry date each month.(it does) You can buy one month ahead or go out for longer monthly or weekly periods if you wish.
A snapshot on one day with a stock market price of $194 per-share shows that you can choose multiple contracts..but lets consider the $180 or $200 strike price.
The $180 strike price is “in the money” for call option purchasers because the underlying shares are more valuable. When you buy in the money options, you pay more because it has intrinsic value. Those calls already hold value, and not just time value.
The $200 strike price is “out of the money” and has no immediate intrinsic value because it’s higher than the current stock-market price. There is a time value component though, and that's what you're paying for when you buy the contract.
If you want to buy the call option at $180 expiring in a month, you pay for the in the money value of the call, plus the TIME value, which is 30 days. It costs you 14.75 for the "in the money part" because of the intrinsic value. The time value is 5.00 - so you're paying 19.75. If the stock moves up into the 200's rather quickly, your call contract will go up in value.
But, if you think the price will increase even higher, more quickly, you might better buying the $200 strike-price that is out of the money. Here, a one-month call option costs $5.50. If AAPL Tops $205.50 quickly over the next month you can make a nice profit.
What's more, your loss can’t be greater than $5.50 a share. Unlike the previous option which could lose much more (if you held it while it dropped). This is important to understand in options trading for beginners. Check out our how to make money in the stock market post.
2. This Is How a Put Option Works
If you hold the shares and want to put a floor under the price then take out a put option. Put options are meant to be insurance in case a stock drops. Traders still love to trade them. Doing so gives you the right but not the obligation to sell your shares, so you receive a set price. With my AAPL example above, guaranteeing a right to sell it in a month at $200 costs $11 in premium ($11 = 1,100 dollars!)
At a glance, here are some possibilities as to what can happen with your put option:
The price falls to $150. You win! You collect $200 for each share less the $11 premium. So you get $189. (or $18,900!)
The price stays unchanged at $194. You lose. The premium you paid for the put options goes to .01 ($1) and you make no money on the trade. You lose it all.
The price soars to $250. Your right to sell is worthless. You lost the premium you paid (1,100), but some investors think it’s worthwhile to buy insurance-style protection. Again this is why options were created.
The share price may have gone the other way. Learning how to trade options helps you understand this.
3. What Can I Buy Options On?
If the light bulb suddenly went off for you as it did for me, you’ll be happy to know options are available on all sorts of investments. Worldwide, you can choose from thousands of options to trade on.
For instance, bonds, shares and currencies have options associated with them.
Equity options are the best known and the most likely to be chosen by private investors. Most are called traded options because investors can trade them, which earns buying or selling during the option period.
It’s important to remember you never own the shares or other securities with traded options. Hence, you have no shareholder rights and don't get dividends either.
Although options trading for beginners might not be thinking about shareholder rights.
How Long Does It Take to Learn Options Trading for Beginners?
- How long does it take to learn options trading? That depends because every trader is different. They are a bit complicated to learn but well worth the effort. It takes a few months to learn the overall concepts and then about 6 months to a year to become comfortable trading them.
In this first example, I'm going to use a car. A 1969 Dodge Charger to be exact. You really, and I mean really, want this car.
For 40 years you’ve had your heart set on it and now it’s for sale for only $50,000 USD. You sense an opportunity here because similar cars are selling for $80,000 +.
So, in order to buy yourself some time, you put a deposit down to “hold” it. Because many people are interested in it but you want to do your research before you fork over the cash. In the options world, this would be known as a $1,000 call option.
However, did you know you may sell your $1,000 option along with its right to buy the car at $50,000 for $2,000 to someone else? You might think to yourself, who in their right mind would want to buy it? Well, someone who feels the car is worth $60,000.
So, the second person gets the car for $52,000 - $2,000 to buy the option (from you) and $50,000 to the original owner. What does this mean for you? It means you’ve doubled your money!
But, don't run out and buy and sell options just yet. This is quite an advanced strategy which can lead to substantial losses if you don't mitigate risk. Check out our learn options trading post.
1. Volatility: Options Trading for Beginners
High-volatility shares have unstable prices. The more volatile a share it, the greater the chance of the option of making money but, the higher the cost of the option.
You can take a bet on the volatility of the market as a whole through VIX, the Chicago Board Options Exchange’s Volatility Index. It's up to you whether or not you want to use a stockbroker, the majority don’t.
The main reason for looking at the VIX is beneficial is because you get to see the market as a whole. Is it trending to be jumpy or is in a period of calmness?
2. Handy Tips on Options Trading for Beginners
Most importantly, before dipping your toes in the water and dishing out capital, study how traded-options premiums move for a variety of shares. Options that have monthly expiry dates as opposed to every three months are more heavily traded.
As a result, they tend to have lower charges. What's more, selling call and put options can bring limitless losses.
This is because you're selling shares you don't own. Because of this, it’s wise to build your foundation of knowledge in options. We would hate to see you lose your hard earned money in a trade gone sideways.
That's why our trading service offers an options trading course. We also discuss how to trade options in our live trading room.
Practice Options Trading for Beginners
We can safely assume that quick, get rich schemes don’t work with options. Just like they don’t work with any type of trading.
I’m not saying it'll take years but if you diligently apply our strategies every day, you’ll be astonished at the results. Furthermore, we have lots of free courses and materials to get you started, you just need to take the first step. Make sure to take our free online trading courses.