Why Options Are Less Risky Than Stock.
by David Chandler
We prefer to trade in stock options.
You may have been told in the past that trading in options is a risky business. You can lose your shirt over night, some times even quicker.
Well, what is the truth?
Let's take a look at stock ownership. What can happen if you buy stock?
The price can go up.
The stock price goes down.
Its value can go sideways.
If the value goes up you make money. If it goes down you lose money.
However if there is sideways movement you will not directly gain or lose money. You will however incur costs through brokerage fees directly and indirectly lose money through what is know as "opportunity cost."
This is where you are unable to invest in new opportunities and therefore miss out on the potential profit.
In conclusion the only way you can profit when owning stock is when its value goes up.
Now some of you may be thinking, "But what about shorting?"
Well yes, short selling stock is possible but it is quite a tricky strategy and has almost unlimited risk so it is certainly not an approach we recommend.
To explain - when shorting stock you are selling stock you actually don't own. Your plan here is to sell high and buy back low. The difference in price is what makes up your profit.
But can you see what the problem is here?
Can you see what would happen if the stock price went up? Also what would happen if it when up a lot?
Having traded the stock at a lower value when you have to buy it back it costs you more resulting in losses which can be catastrophic.
So, to summarize, when you trade stock you can really only make money if the price increases.
There is another consideration when trading in stock which is the high cost of owning stock.
In you buy 50 shares at $100 the stock will cost you $5000. Even if you buy it on margin the cost would be $2500.
This is large outlay and therefore a large risk; even more so if you take into account you have a 1 in 3 chance of the value increasing.
In addition to this, due to the unpredictability of stock trends you need to be able to get the timing right.
So stock trading is not that easy. And it's expensive.
But how do options offer an alternative?
For a start you only have to invest about 2% of what the stock was worth and yet you still control the same 100 shares.
Taking the example above that's investing $100 instead of $5000.
Add this to the fact if you get your game plan right you can profit no matter which way the stock price moves.
And finally, your risk is limited. The maximum you can lose is the amount you put into the trade. So in the example above - $100.
But the best thing of all is the leverage that options provide.
In the above example, if the stock price goes up by $5, the profit on the stock trade would be 10% or on margin, 20%.
But with a similar increase in prices the value of your option may increase by 100%. This would give you a profit of 100% - this is ten times more profit than on the standard stock trade.
So by not accepting a commonly held view that the owning of stock is the least risky option you give yourself the chance of learning how to trade using options; opening up a good vehicle for your investments.
We offer the information in this article for educational purposes only. It is not to be used nor is it provided as financial advice. It is provided based on our own experiences of what has worked for us personally. If you are planning to trade or invest in the stock market you should seek advice from a registered licensed advisor.
About the Author
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source:www.goarticles.com
Trading Stock Options
By Paul D King
If you've been trading stocks for some time and have never tried options, then you may want to give them a go. Stock options are more speculative but offer flexibility, diversification and control to protect your stock portfolio or create more investment income. So, here are some things you should know about options.
An option is a derivative, meaning its price is based on an underlying asset. These underlying assets can either be stocks, Indexes or ETFs. An options trade involves giving someone the “right to buy or sell” a certain stock at a certain price by a specific time. Options help the investor to purchase stock at a lower price and to gain from a stock price’s rise or fall. If you buy an option to purchase securities, then it's called a “call” option. If the option you buy is to sell securities, then it's a “put” option. There is also a put and call option, whereby traders purchase both calls and puts on the same stock, with agreed prices and by an agreed date. Buying an option gives you the right, but not the obligation to purchase the asset at a specific price (called the strike price).
The hardest part of options trading is understanding all the jargon. But once you understand all the technical names, you'll soon find out that basically what you really need to know is which way you think the stock price is going to go in the near future. Once you have an idea what's going to happen, then all you need to do is use the right option trade to profit. For instance, if you expect a stock's price is going to increase, then you would purchase a call option on that stock.
Options are not issued by companies like stocks are. All options that exist are "written" or sold by another trader somewhere. Therefore, you are directly betting against that person if you buy an option.
For Call options, if the price of the underlying asset is below the strike price of the option then it is "out of the money," when the price of the asset crosses above the strike price it is called, "in the money." This too works the opposite way for Put options. The price of the option has the greatest percentage moves when it crosses from out of the money to in the money but out of the money options also have the most risk.
So if you don't want to risk large amounts of capital, but still want to use a smaller amount of money to gain from price variations, options trading can be the answer. There are very few risks and an option buyer cannot lose more than the price of the option, the premium.
There is much more involved with trading options, but these are just some of the most basic concepts to help you get started. The bottom line, is that options trading is something that you should only try once you've spent some time learning about the stock market, and if you can make decisions calmly when the pressure is on. A lot of information must be learnt before an educated trading decision can be arrived at.
www.alloptionstrading.com provides lots of articles and simple and easy to follow tips and techniques on Option Stock Trading. Discover more insider secrets and strategies to help you trade stocks profitably at http://www.alloptionstrading.com
Article Source: http://EzineArticles.com/?expert=Paul_D_King
