Options Trading Strategy

http://www.options-trading-
education.com/24024/options-trading-strategy/
Profits from trading options are directly
related to a well thought out and
executed options trading strategy.

Whether this is a short options
trading strategy when selling options
or the use of long options trading to
enhance profits on a stock that you
own, sound analysis and careful
attention to market sentiment are
critical.

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Here are a few thoughts about which
options trading strategy to use and
when.

Short Options Trading
Strategy

Selling Options

A short options trading strategy is
required when you execute sell a call
option.

You are contracting to sell a stock at a
set price, the strike price of the
contract, if the buyer so chooses.

You do not own the stock and your
analysis tells you that the stock is not
likely to go up in value.

If the stock does not go up and the
buyer does not exercise the option then
you gain the value of the premium on
the option.

If the stock does go up in price you will
lose the difference between the strike
price when the option contract was
made and the spot price when the
option is exercised.

The appropriate options trading
strategy for short option selling is to be
very conservative and only enter into
trades in which you are very certain to
make a profit.

This is the world of the famous baseball
pitcher, Satchel Paige, who was
criticized for holding the baseball for a
long time before throwing it.

The hitter cannot hit the ball if it is in my
hand, he is said to have commented.

Likewise, you will not lose money
selling options if you avoid any and all
situations in which your analysis does
clearly predict a profit.

Buying Options

There is no risk of buying short with
options. In fact, buying options on a
stock instead of buying the stock can
help you limit your risk and provide a
nice degree of investment leverage.

If, for example, you purchase 100
shares of XYZ Corp at $100 a share
you pay $10,000 plus fees and
commissions.

The stock goes up to $110 a share and
you sell for $11,000 earning $1,000
minus fees and commissions.

Without the overhead of investing this
is a 10% return on invested capital.

If, however, you purchase a $103 call
option on 100 shares of XYZ Corp for
$3 a share this costs you $300.

This contract allows you to buy the
stock at $103 at any time during the
term of the options contract. Let us say
that the stock goes up to $110 just like
in our other example.

In this case you can exercise the
contract and have 100 shares for
$10,300.

You turn around and sell the stock for
the market price and earn $700 minus
fees and commissions.

You invested $300 and earned $700
not counting the other overhead of
trading.

You return on invested capital is $400
which is 400/300 = 133% which is
substantially better than a 10% return.

And, if the stock falls in price to $90 a
share the person who purchased the
stock loses $1,000.

The most that the option buyer loses is
$300 in this hypothetical example.

Buying, as an options trading strategy
offers the trader investment leverage
and limited risk.

Long Options Trading
Strategy

Writing stock options for income is a
common practice of many with very
stable stock portfolios.

Selling calls or puts on stocks that you
own is called covered options
trading.

The way writing stock options for
income works is that you own a few
hundred shares of a very stable stock.

You know that it very unlikely that the
price of the stock will change very
much.

So, you sell call options on the stock.
Because you will probably not have to
sell the stock in question you will simply
gain a little income from writing stock
options for income.

As with a short options trading strategy,
the point is to be very conservative and
only sell options when your analysis
tells you that that likelihood of having
the option executed is very remote.

Options Trading Strategy

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