If you invest in the stock market, it’s possible that you’ve heard other traders discuss trading options. Once you have the necessary abilities, options trading, like other types of investment, may be a lucrative method to increase your portfolio. We’ll offer you a brief overview of options trading to help you choose whether it seems like something you’d like to explore, even though it’s strongly advised that you conduct extensive study before making your first options transaction.
What Is Options Trading, Exactly?
Contracts known as stock options grant purchasers (or option holders) the right, but not the responsibility, to purchase or sell a particular number of firm shares by a given date. Although options may be traded on a wide range of assets, including indices and EFTs, we’ll concentrate on options covering stocks for simplicity’s sake.
Instead of buying the right to purchase or sell the stocks, why not just buy or sell them? To assist novices understand this, the following trading phrases are provided:
expiry Date: The date on which an option expires is known as its expiry date. The expiration dates of options might be as short as a few days or as long as two years. In any case, the option is no longer tradeable or exercisable after this date.
Strike Price: Should the option holder choose to exercise the option, the strike price is the price at which they can buy the stocks.
The number of shares that the option holder can buy at the strike price in the event that they execute the option is known as the option contract multiplier. A common number of shares covered by numerous options is one hundred. Let’s say you are examining your possibilities and come across one that is being offered for $3.00. Even though this might seem like a great deal, keep in mind that this price only covers one of the 100 shares that are offered in the entire contract. Therefore, to get the entire asking amount of $300.00 for the contract, you would have to multiply $3.00 by 100.
The goal of options trading is to attempt to benefit from the price movement of a certain stock by correctly guessing whether it will go up or down over a certain period of time. Imagine, for instance, that company XYZ is currently trading at $25 per share, but you foresee its price going up over the next month.
Rather than take a chance on being right, you could purchase a stock option that gives you the right to buy 100 shares of XYZ at $30 per share anytime within the next 30 days. Say that you turn out to be correct, and XYZ ends up trading at $50 per share within the next month. You could then exercise the option and purchase 100 shares at a deep discount, netting yourself a nice profit.
If, on the other hand, XYZ suddenly tanks and ends up trading at $10 per share in 30 days, you’re under no obligation to make the purchase. While you will lose the money you spent on the option (aka your “premium”), it will likely be a lot less than the loss you would have sustained if you had purchased the shares outright.
It’s also possible to make a profit by trading options you have no interest in exercising. If you’re able to purchase an option that increases in value, you can always sell it to another buyer before it expires.
Various Stock Option Types
Once you become more advanced at trading, you’ll discover that there are a great many different options strategies and techniques to employ. When it comes to understanding stock options for beginners, however, there are two main types of options that you need to know.
Options for Calls
The right to purchase 100 shares of the specified stock at a specific strike price at any time prior to the option’s expiration is granted to the option holder via call options. Purchasing a call option will, ideally, let you to buy the stock at a lower strike price after the price has soared if you believe it will see a significant upward price increase. Just make sure that, even after paying the option premium, the difference between the stock price and the strike price would still result in a respectable profit for you.
Put Options in
The right to sell 100 shares of the designated stock at a specific strike price at any point prior to the option’s expiration date is granted to the option holder via put options. You can buy a put option if you believe that the price of a certain stock will decline or if you just want to reduce the chance that it could. Assume, for example, that you own 100 shares of a business that is about to release its profits. Your contract will permit you to sell your shares at a predetermined price, even if the report proves to be unfavorable and the company’s stock plummets.
How to Begin Trading Options
In order to begin trading options, you’ll need to open a brokerage account on a trading platform such as Schwab, TD Ameritrade, or WeBull. Due to industry regulations, you’ll also need to apply for permission to trade options, which usually takes a day or two. Approval is usually based on things like your financial situation, risk tolerance, and experience.
If you’re brand new to options trading, then options paper trading platforms for beginners are a great way to learn without actually risking real money. Platforms like TD Arbitraments Paper Money and Interactive Brokers paper trading simulator allow you to make beginner mistakes with fake money instead of your hard-earned cash.
When you feel confident enough to start placing actual trades, you’ll simply navigate to the stock you’re interested in purchasing an option for in your trading platform. Navigate to the stock’s options section and you’ll find a list of available calls and puts from which to choose. After having done your due diligence and research, select the option that aligns with your goals and strategy. Make your first purchase and monitor your option daily in order to decide on your next move.
Hopefully, we’ve given you a good idea of what options trading is and what it entails. If you already have a brokerage account, be sure to check out the educational section of your platform, as many have content geared towards free options trading for beginners.
