What is an option in stock trading

What Is Options Trading? Examples and Strategies in - TheStreet

 

what is an option in stock trading

Thales of Miletus. An option protects investors from downside risk by locking in the price without the obligation to buy. If there’s a company you’ve had your eye on and you believe the stock price is going to rise, a “call” option gives you the right to purchase shares at a specified price at a later date. A call option gives you the right to buy shares of stock at a certain price, known as the strike price, while a put gives you the right to sell shares to the option's writer at a set price Author: Matthew Frankel, CFP.


How to Explain Option Trading


Search: What Is Options Trading? Here are the basics of options trading, and how its varied investing tactics could work for you. These contracts give the buyer the right -- but not the obligation -- to buy or sell a stock or other asset at a predetermined price, within a predetermined time period. Calls and puts: The basics There are two basic forms of options: calls and puts. Options are valid for a predetermined length of time, and you can buy options with expirations measured in days, or you can buy options that expire several years in the future.

When you look at an options chain a list of the options available for a particular stockthe prices are quoted on a per-share basis.

However, it's important to realize that each options contract is typically for shares of the underlying stock. You have the right to exercise an option at any point before expiration, which means that you would actually buy or sell the shares of the underlying stock. In practice, however, options are rarely exercised early. There are two components to an option's price, or premium -- intrinsic value and time value.

Intrinsic value is how much you would make if you sold the option, while time value is the premium you pay for what the underlying stock could do. The option is said to be in the money if it has intrinsic value, and out of the money if it does not.

Investors can buy or sell options, depending on their objectives and their forecasts. For example, if you sell a call option on a stock, you're generally betting that the price will go down and the option will expire worthless.

As a final point, when talking about options, what is an option in stock trading, we generally state the underlying stock, the option's expiration date usually just the month, unless they're weekly optionsfollowed by the strike price, and whether it's a call or put. For example, I own call options to buy Twitter shares at any time before Jan. If the stock heads higher, I get to take advantage of the upside on shares for a fraction of the price of ownership. There are a few ways this trade could play out.

On the positive end, Apple could rise in price, what is an option in stock trading. On the other hand, if Apple drops, the value of my option contract could fall rapidly.

In a nutshell, this strategy provides me with unlimited reward potential if I'm right, and it doesn't take too much of a gain to produce a hefty return. However, a negative move in the stock could be devastating to the option's value. It's also important to mention that since I would own an options contract instead of actual stock, I would have no rights to any dividends Apple pays between now and expiration, which should be considered when calculating a profit or loss on an options trade.

Options strategies: Basic and complex In addition to simply buying call and put options, there are many strategies options traders can use, ranging from the simple to the exotic. Here are some of the more common options trades you can make, along with some links to detailed explanations of some of these: Covered call: This is where you buy shares of stock, and sell call options against them.

This has the effect of generating extra income from a stock position and protecting against a drop in the share price, what is an option in stock trading.

Married put: You own shares and purchase a put option what is an option in stock trading order to protect yourself against losses. Call spread bullish : Buying call options at one strike price while selling call options at a higher strike price.

Best for profiting from a modest rise in the stock's price. Put spread bearish : Buying put options at one strike price and selling puts at a lower strike price.

The opposite goal of a bull call spread. Collar: Buying an out-of-the-money put option and selling an out-of-the-money call option simultaneously. Usually used to lock in profits without selling an investment. Long straddle: Buying a call and put option with the same strike price and expiration date. This strategy is useful if you think a stock will make a substantial move, but you what is an option in stock trading know if it will be up or down.

Long strangle: Buying a call and put with the same expiration but different strike prices. Generally profitable if the underlying stock's price makes a large move in either direction. The most complex strategy on this list. Keep in mind this isn't an exhaustive list. In addition to opposite strategies for many of these such as a short straddlethere are many other potential options trading strategies you could use.

How to use options trading in your investment strategies Despite their reputation as being inherently risky, options can actually be an effective part of a long-term investor's strategy. As a personal example, I've sold covered calls against stock positions I own, and sometimes purchase deep-in-the-money options as a stock replacement strategy. While certain reckless options trades, such as buying options that are far out of the money, are almost never a good idea, there what is an option in stock trading some ways investors can actually reduce their risk with options.

Matt specializes in writing about bank stocks, REITs, and personal finance, but he loves any investment at the right price. Follow him on Twitter to keep up with his latest work!

 

Essential Options Trading Guide

 

what is an option in stock trading

 

An option protects investors from downside risk by locking in the price without the obligation to buy. If there’s a company you’ve had your eye on and you believe the stock price is going to rise, a “call” option gives you the right to purchase shares at a specified price at a later date. Thales of Miletus. A call option gives you the right to buy shares of stock at a certain price, known as the strike price, while a put gives you the right to sell shares to the option's writer at a set price Author: Matthew Frankel, CFP.