Option Trading Strategies » Stock Options Trading

Options Trading Mastery: Construction & Value of a Vertical Spread

admin — Thu, 22 Sep 2011 15:58:51 +0000

Construction of a vertical spread occurs with the purchase and sale of a call (put) in the same stock and in the same month. The only difference between the two options is the strike price. For example, an investor would construct a vertical spread by purchasing the IBM June 55-call while selling the June IBM 60 call. This trade would be called the IBM June 55 – 60 call spread. Similarly, a purchase of the IBM July 45 put and sale of the IBM July 60 put would be called the IBM July 45 – 60 put spread.
The key to the constructing these vertical spreads is choosing options in the same stock and month, but different strikes and in a 1 to 1 ratio. That is, you must purchase one option for every one you sell or sell one option for every one you buy.
Value and the Vertical Spread
A vertical spread’s maximum value is the difference between the two strikes. For example, the maximum value of the June 55 60-call spread mentioned previously is $5.00. [60 - 55] = $5.
Spread- Difference in Strikes – Spread Maximum Value
August 35 – 40 call 5 $5.00
April 70 – 85 put 15 $15.00
Nov. 20 – 22.5 call 2.5 $2.50
Dec. 40 – 50 put 10 $10.00
Jan 60 – 80 call 20 $20.00
Using the June 55 – 60-call spread example, we will set the date to June expiration on Friday. On that day, all the June options will expire and the options will be worth parity, as all of the extrinsic value will have eroded away.
Where does the spread get its value? From its two components – the call (put) you buy or the call (put) you sell. Look at the spread’s value with a couple of different closing stock prices. If the stock closes at $55, then both the 55 strike and the 60 strike will be out of the money and worthless. The value of the spread will be zero since both options are worth $0. If the stock closes at $57.50, the June 55 calls will be worth $2.50. The June 60 calls will be out of the money and thus worthless, therefore the spread will be worth $2.50 (June 55 call $ 2.50 – June 60 call $0).
If the stock closes at $60.00, then the June 55 calls will be worth $5.00. Meanwhile, the June 60 calls will be worth $0. This means that the spread will be worth $5.00 (June 55 call $ 5.00 – June 60 call $0). This is the maximum value of the spread. Note that the maximum value is identical to the difference between the strikes.

Stock Trading Options: Do your research well

admin — Tue, 20 Sep 2011 22:57:51 +0000

Stock options trading can be much profitable in comparison to regular stock trades and investments. While investing, it is always beneficial to have a good amount of knowledge about the type of investment and associated risks. You should be careful about certain things when investing in Options.If you do not have enough information about the Stock Options, it is important that you do some research first. Buy a book or go to the seminars organized by stock trading companies. Technical terms can be a little complicated as there are different types of trading, buying and selling available. Determine the type of Options you want to try first based upon the investment amount and risk factor. Make yourself familiar with terms like calls, puts, long call, short call, long put, short put, long synthetic, short synthetic, call back spread etc.

Choosing the Best Method of Online Stock Trading

admin — Mon, 19 Sep 2011 22:59:35 +0000

In the age of technology, Internet has proved to be a blessing for trading stocks online. Stock trading prior to internet required help of a broker and huge amount of money. But now you can trade your stocks online with a small amount and expect huge returns on your investment. Meeting of technology and the lucrative stock market industry has allowed investors to buy and sell stocks online. This means that the stock broker who acted as the middleman in the stock market trading process plays a side role as investor can learn to navigate alone. Nowadays many individuals are increasingly looking for the best online stock trading options because of varied reasons and the most immediate being that online stock trading is a great stream of income flow. There is huge demand of jobs related to stay-at-home making online stock trading a feasible option for making money from the comfort of your home. Additionally, the costs that were incurred in hiring the services of a stock broker have reduced substantially.Online stock trading is assisted by guidelines and training provided over the internet. It is necessary that the investor chooses the best method of online stock trading. You will find many websites offering subscription based Newsletters for stock options trading recommendations. The newsletter provide news and global view of the current stocks traded. They offer the instructions to the investor making him well informed and self sufficient to trade his stocks to receive substantial amount of profit. The companies trading in stocks though have same objective do differ on certain principals from each other. The investor needs to research properly and then become the member of such online service providers. The best way you can utilize your access to the world’s markets is by getting training in online stock market trading. Experts online guide you with speculations and proper training to grab certain exceptional opportunities in the stock market. They train you to sustain your position in the market for long run. Acquire the training you need making sure that you are all geared up, ready to go and take care of investment in stock trading. Thus, online stock trading proves to be both simple and complex depending on the navigation tools that an investor uses for trading. Choose the best online stock trading company that will allow you to use their website in an easy and functional way. They can help you with latest headlines in the field of stocks and offer detailed information related to fluctuations in the market. Subscribe to online newsletters now to educate yourself and learn stock trading on a real fundamental level.

Options Trading Mastery: Construction & Value of a Vertical Spread

admin — Fri, 19 Aug 2011 11:30:01 +0000

Options Trading Mastery: Construction & Value of a Vertical Spread

admin — Mon, 15 Aug 2011 20:10:45 +0000

The Stock Replacement Covered Call Strategy

admin — Wed, 10 Aug 2011 15:59:28 +0000

Back in 2003, (October and November ‘03), the giant biotech Amgen (AMGN) came under some intense pressure, trading down about $12.00 before it found what appeared to be a decent level of support, and began to consolidate. At this level, anyone interested in going long Amgen at a discounted price would be advised to do so. Implied volatility was high coming off this precipitous drop, which caused premiums in the options to increase considerably.
This scenario can be a very attractive for covered call sellers or buy-writers. On Tuesday, December 2, 2003, Amgen was trading at $58.90, the December 60 call was trading at $1.30, and there were only two weeks left until expiration.
Let’s assume that you wanted to take advantage of this opportunity but you would be unable to participate in it due to capital requirements. The stock was trading at $58.90 and you did not have sufficient funds to support buying the stock at that price. After all, the purchase of just 1000 shares would cost $58,900.00.
This is the time to consider using a strategy called stock replacement. In many instances, an insufficient amount of funds in the investors account can mean the loss of a golden opportunity when dealing with high dollar priced stocks.
So, an alternative to purchasing the stock outright is to find a way to replace the actual stock with something else which is not as expensive. In this case, a deep in-the-money call would do just that.
When a call is deep in-the-money, meaning that the strike price of the call is much lower than the stock price, the delta of the call approaches 100. This means that there is close to a 100% chance that this option will finish in-the-money.
Because of this, the option will trade just like the stock; penny for penny, dollar for dollar (in a theoretical 100 delta scenario.) If you recall, the term delta was mentioned when describing the option in question. Delta is the first derivative of the stock and it has a three pronged definition. The first is percentage change.
The delta is given as a percentage change, meaning how much in percentage terms the option price will change with a movement in the stock. A 50 delta option will move 50% the amount the stock does. If the stock moves $1.00, than the option moves $.50. A 30 delta option moves $.30 on a $1.00 movement in the stock, and so on.
Delta can also be defined as percent chance. This is used to describe the percentage chance that the option will end up in-the-money. A 90 delta option has a 90% chance of finishing in-the-money.
Finally, delta can also be defined as hedge ratio which is the amount of deltas needed to properly hedge a position. These concepts will be discussed in more detail in future Options University courses, but for now it is sufficient to just understand these basic concepts.
It was important to explain the meaning of delta to understand that the deep in-the-money call would perform and act just like the stock. One way to determine if the call you will select is in-the-money enough for your purpose is the delta. A delta in the mid or high 90’s is an ideal candidate.
The selection of the proper in-the-money call to use is a critical element in the success of this strategy. In order to obtain an accurate delta of all options under consideration for stock replacement use, you can go to any number of web sites or consult your broker. If all else fails, there is a little trick of the trade that can be used to aid in selecting a call that is deep enough in-the-money to suit the stock replacement criteria.
To do this, check the quote of the corresponding put (i.e. the December 47.5 put if you are looking at the December 47.5 call for stock replacement). If there is no bid quoted for the put, then the call is deep enough in the money to consider it for a stock surrogate. There are several reasons for this being an effective strategy, which we wont cover here, but for the purposes of this discussion, it is enough to know that this method does work.
So, with the stock at $58.90, the December 47.5 calls met the criteria for stock replacement. This call had a mid to high 90’s delta and its corresponding put had no bid. The December 47.5 call was trading at $11.45 or $.05 over parity. By purchasing this option, you would be equivalently buying the stock at $58.95 (the strike price plus the option price).
Let’s say that you bought the December 47.5 call for $11.45. If a total of 10 calls were purchased (an equivalent of 1000 shares), you would lay out a total of $11,450 to fulfill your stock requirement on this buy-write. If you had purchased the stock outright, you would have spent $58,900. The difference between the capital needed to purchase the stock outright ($58,900) and the capital needed to buy the in-the-money call ($11,450) is the key to this trade.
Now that you have your stock (via the calls you bought above), it is time to sell covered calls against this position, which would be the December 60 calls for $1.30. If the stock stays at its present level, you would then capture the $1.30 premium that you sold the December 60 calls for because they finished out-of-the-money at expiration.
The $1,300 profit in this scenario represents an 11.35% return in only two weeks. This well out-performs the return garnished on a $58,900 investment which would only be a 2.21% return in the two weeks, if you purchased the actual stock.
As we know, the maximum profit of $2.35 will be attained if the stock reaches $60.00 or above. This return comes from the $1.30 you received in the premium for the sale of the now worthless December 60 call plus a $1.05 profit from the December 47.5 call you purchased. With the stock now at $60.00, the December 47.5 call is worth parity, which is $12.50.
You purchased the call for $11.45 thus you received a $1.05 capital gain in the option. This profit of $2350.00 represents a 20.5% return in two weeks verses a 3.98% return in two weeks, if you had purchased the actual stock.
As you can see, you are getting the same overall dollar return on much less money – which creates a much higher percentage rate of return. This is one of the positive leverage effects that the proper usage of options can provide. When you initiate this trade, you are buying and selling two different options simultaneously which is known as a spread. A spread is a trade which involves the buying of one option against the sale of a different option simultaneously and will be covered briefly in the next section.
By buying the December 47.5 calls for $11.45 and then selling the December 60 calls at $1.30, you are buying the December 47.5 December 60 call spread for $10.15. This type of spread is known as a vertical spread.

Options Trading- 4 Easy Methods to Track Options Activity

admin — Tue, 09 Aug 2011 11:00:49 +0000

Regardless if you are a retail buyer or trader looking out to expand your horizon by heading past the gorgeous much less hazardous confines of the regular stocks, bonds and mutual funds portfolio onto the much more speculative and high-adrenaline, although riskier environment of options trading, or if you’re the business analyst of a multi-national company looking to hedge the cost of your company’s primary resources, it is usually to your best advantage to be additionally-informed as possible prior to determining whether you are going to take that plunge to the high-reward but additionally high-risk world that’s the options trading market.The oracle of Omaha, Warren Buffet, used to call options as financial weapons of mass destruction. Granting how the options marketplace is not meant for everybody, for that well-seasoned trader nevertheless, it offers advantages and safety well beyond the capabilities of other much additional conventional securities frequently found inside the marketplace.Obtaining a dearth of information readily obtainable regarding the online at the speed of one’s fingertips, it really is terribly straightforward now for one to realize access to many applications, resources, charts, graphs together with alternative data associated to options trading. Don’t be lulled into considering that this really is all you’ve got got to have nevertheless, merely because in order that you’ll obtain the best outcomes you continue to must have technical and fundamental analysis, coupled with an awareness of the pertinent developments concerning the basic asset, like scheduled announcement of earnings, FDA meetings, buyer conferences, mergers, takeovers, approaching dividend ex-dates, and so on.But when you’re new to the business and faced with having a seemingly endless parade of organizations, ticker updates, profiles and interviews, with turning into bombarded with all sorts of real-time and even archived information, it can be understandable in case you stop and ask your self: exactly where, do I begin off amidst all this overwhelming information?

Stock Market Live Feeds Bring Better Profits

admin — Fri, 24 Jun 2011 14:30:09 +0000

Using stock market live feeds can bring better profits to your investment portfolio. For today’s market-savvy small trader, gaining access to these informative, real-time feeds can be the one of the best ways to stay on top of your current stock market investments – and find lucrative new ones. If you’ve never used live feeds, you should know that they provide real-time trading information, typically in both table and graphical form, giving you immediate updates about changes in shares during the day.

Since option prices can change dramatically in mere minutes, using live feeds to analyze stock performance is a great way to get an edge that nets out in financial success.

If you’re new to options trading, you may not know just how flexible this investment vehicle really is. By “gambling” on price drops and rises (or both at once!) by trading options contracts, you can make money if your predictions come to pass. However, you need to study the market before you begin to trade – live stock market feeds provide an excellent way to track changes and formulate an investment strategy.

Options contracts offer a lot of leverage to small or large traders. In America, a single contract relates to 100 shares. By spending less on stock options contracts, you can still be a power player in the stock market, since you’ll be in control of lots of underlying shares.

Big gains and losses aren’t unheard of in the risky world of options contracts – these investments are not for the faint of heart. Therefore, if you’ve got the guts and savvy it takes to get rich doing this sort of trading, you’ll need the very best information you can get. After all, share prices can shift dramatically in a matter of minutes, and many “free” live feeds actually have a delay of fifteen minutes or more – they don’t really show an accurate, real-time depiction of stock market events.

To get the best service, you can search around for an authentic, real-time price feed – these accurate live stock market feeds are available with certain reputable online websites, such as OptionsXpress. You’ll need to open an account to access live feeds, but then you’ll be able to start online trading immediately. Do your homework before you commit to an online trading platform – make sure you won’t be hit with a lot of hidden fees! The best websites will offer world-class trading services, no-cost broker assistance on trades, and an affordable commission rate.

No matter what sort of trading interests you, it’s vital to have access to real-time stock market feeds. Without them, you’re simply not equipped to make split-second decisions based on hard facts and accurate figures. Many people have become millionaires playing the stock market – it’s not a pipe dream! However, you must have the skills and know-how to choose the right shares at the right time. In today’s digital world, you can make your financial dreams come true – right from the comfort of your own home. It’s as easy as signing up with a respected service that offers affordable online trades and stock market live feeds.

Visit David Starling’s website to learn how you can make $10K per month in the stock market. See David’s article about using online shares trading for profits as a home trader.

Options Trading Lesson: The Butterfly

admin — Mon, 25 Apr 2011 23:28:41 +0000

I am sure many of you have heard of a sophisticated sounding strategy called the Butterfly. For some reason, it seems to be the darling strategy of many of those ‘teach-you in five hours’ type option companies. They publicize the ‘mystical magical Butterfly’ and the ’sophisticated Condor’ as if they were going to unlock the options version of Pandora’s box. I guess they feel that, by introducing you to the catchy named strategies, they will grab your attention and thereby give them a chance to promote themselves. From a marketing standpoint, that is not a bad idea.
However, the Butterfly is a ’sophisticated’ only for those that do not know options! If you have done your homework and have learned the option basics properly, then the Butterfly is a simple strategy that is just a combination of an already familiar, basic strategy. Let’s take a closer look and uncover the secrets of the mysterious Butterfly!
Butterfly Construction
The first thing you must understand about the Butterfly is that it is constructed by using either all calls or all puts. The Butterfly is never a combination of the two. (We will talk about an exception called the Iron Butterfly later.)
Whether you choose to use calls or puts, butterflies are always constructed in a ‘1-2-1′ arrangement. For the long Butterfly, you would buy one low strike, sell two medium strikes and buy one high strike with the strike prices equally spaced. The center strike typically matches the current price of the stock.
For example, if the stock is 55 and you decide to create a long Butterfly by using calls, you could buy a 50 call, sell two 55 calls, and buy one 60 call. If you decided to use puts, you could buy a 50 put, sell two 55 puts, and buy one 60 put. The long Butterfly is always long the outer strikes and short the center strike.
You would construct the short Butterfly in the opposite way. The short Butterfly will always be short the outer strikes and long the center strike. For example, to create a short Butterfly, you could sell a 50 call, buy two 55 calls, and sell one 60 call. The short Butterfly trader is simply taking the opposite side of the trade with the long Butterfly trader.
This is not a complicated construction. The trick is to understand that while there are three strikes to a Butterfly, there are four options involved. I know the construction will be hard to associate with long or short in the beginning, so here is a little trick or two to help you remember how to differentiate a long Butterfly from a short Butterfly.
When I think of whether a Butterfly is long or short, I always look at that first strike. If that first strike is long, then it is a long Butterfly. It is as simple as that. Some people find it easier to just focus on the center strike where you have the two-option position. If you are short the center strike, then you are long the Butterfly.
The opposite would be true for short butterflies. These are just a couple of ways that you can determine whether a Butterfly is long or short until you become so familiar that you automatically know which Butterfly is which. Until you get to that point, you will want to use little tricks to remember which one is which. Use whichever is most comfortable but I suggest you focus on only one ‘trick’ and use only it until you become so familiar with butterflies you don’t need it any longer to recognize which one you have. Make your choice and stick with it!
The following chart shows the long and short Butterfly construction:
Notice that the strike prices are equally spaced. This is a necessary aspect of all butterflies. However, while the strikes must be equally spaced, they do not need to be spaced by five dollars as in this example.
We could have spaced them by ten dollars and created a different long Butterfly by purchasing the 45 call, selling two 55 calls, and buying one 65 call. You just have to understand that the strikes must be set up in an equidistant manner and they must be either all calls or all puts in the proper 1-2-1 ratio.
From a terminology standpoint, we call this the 50/55/60 Butterfly or, more simply, the 55 Butterfly taking the lead from the Butterfly’s middle strike.
We add to that term whatever month you are dealing with. If we are referring to the June expiration cycle, it would be called the June 55 Butterfly. If we were in April, it would be called the April 55 Butterfly.

Stock Options Trading: the ‘lean’

admin — Sun, 10 Apr 2011 16:02:16 +0000

Professional traders use the term “lean” to refer to one’s perception about the directional strength of the stock. When you own a stock and intend to hold it for a period of time, you are aware that you will probably be holding it while it goes up and while it goes down.

This means that at any given moment in time, you might have a different opinion of the potential movement of that stock. Knowing this, there is a way to address your present level of confidence or “lean.” You do this by your choice of which option you sell.

While it is true that the at-the-money option has the most amount of extrinsic value, it might not always be the ideal option to sell in every situation.

For instance, if you feel that the stock itself has a very high chance of producing capital appreciation above the potential amount of premium you could receive from selling an at-the-money call, then sell an out-of-the-money-call so you can allow yourself a little more room to the upside on the stock.

For example, let’s say the stock is trading at $27.00. Normally, you would sell the 27.5 calls at say $1.00. If the stock were to rise quickly and eclipse the $28.50 mark, then with the buy-write strategy, your position would have maxed out at $28.50, and you would have a $1.50 one month gain. Not bad, but if the stock went to $29.50 then you would have missed out on another $1.00 profit. However, if we had sold the 30 calls for $.30 then we would have another outcome. You bought the stock at $27.00 and sold the 30 calls for $.30 and the stock goes to $29.50.

You would have made $2.50 in capital appreciation and $.30 in option premium for a total of a $2.80 return.

So, if you feel the stock has a real good shot at taking a run up, you can lean your position long by selling an out-of-the-money call.

If you have a more neutral view on your stock you would sell an at-the-money-call in order to receive a bigger premium which allows for greater downside protection if the stock trades down and higher potential profit if the stock becomes stagnant.

This strategy also works on the downside. If, by chance, you feel that the stock may trade down a bit during the life of the option, then you can sell an in-the-money-call. The effect of this would be to provide you with a little extra premium to cover more downside risk.

Remember when you sell an option you seek to capture extrinsic value. An in-the-money option not only has extrinsic value but also some intrinsic value.

When you feel that you want to lean your covered call strategy (buy-write) a little short, choose to sell an in-the-money call so you can also have some intrinsic value to cover your downside.

As an example, say your stock is trading at $29.00 and you feel that your stock may trade down a little but still remain in an uptrend cycle. You don’t want to get rid of the stock but you also don’t want to lose any money so you sell the 27.5 call at $2.00.

The stock starts to trade down and finishes at $26.00. If you had owned the stock naked, then you would have lost three dollars since you owned the stock at $29.00 and it closed at $26.00 on expiration.

However, because you sold the 27.5 calls at $2.00, you would only realize a $1.00 loss in the stock. The premium received will offset the loss due to the fact that you identified and adjusted for a likely move.

As you can see, the buy-write strategy can be altered to fit any directional view you have on your selected stock.

Finally, if you intend to use the buy-write strategy successfully, you generally need to sell the calls against your stock on a consistent, recurring interval, over a period of time.

This means that you will have to be prepared to “roll” your calls out to the next month come expiration. Sometimes, all you’ll need to do is to sell the next month out call.