Options have repute as a risky investment because several investors had bad experiences when exchange started to trade options in 1973. So, investors started avoiding because they believed it to be complex and hard to understand. Actually, in the initial phase 45 years ago, there was hardly any properly trained or experienced investor or broker. Improper options use had led to negative consequences.
Financial Media and some popular trade market personnel have incorrectly attached options with words like ‘risky’ or ‘unsafe’ or ‘dangerous’. Investors must understand the main advantages and proper usage to determine the option’s value. SteadyOptions offer the best options education and great trade ideas on their blog. You can visit their site to gain an insight in this kind of trading!
Advantages of options
Traders get significant leverage. An option position like a stock position can be obtained at a considerably low rate. For example, for buying 300 shares of $60, John needs to pay out $18,000. If he invests in three $25 calls [each contract represents 100 shares] then the total outlay could be $7,500 [3 contracts x 100 shares/contract x $25 price].
John gets an extra $10,500 to use with pleasure. The condition is that John picks the right call to properly imitate the stock position. It is a practical and cost-efficient strategy.
Buying options is risky than owning shares. However, sometimes traders can use options to reduce the risks as less financial commitment is needed. Their relative unreceptiveness to potentially terrible gap opening impacts also helps to reduce the dangers. Options are a reliable form of hedging.
For example, you bought Reliancegreat stock at $60. Your affordability to lose is less than 10% therefore a stop order is placed at 55%. The stop order transforms into a market order for selling the stock as its price is at or falls below $55.
The stop order will work during the day and suppose the stock closed at $61. During the night, the company experienced a dent, and you woke up to a piece of detrimental breaking news associated with your stock. The stock opens at $30, and as you had placed a stop-loss order at $55, it gets sold locking a significant loss.
If you had simultaneously purchased a ‘Put’ option, then you would have stayed protected. Options never shut down even when the market closes. You get 24/7 protection, which stop-loss orders are unable to do. Therefore, options are regarded as a reliable hedging form.
High potential returns
Options offer investors a higher return percentage with low investment. Let’s compare the return percentage of options [purchase price $6] and stock [purchase price $50]. Suppose the option’s price will alter 80% of the stock price change.
If the price increases by $5 then the stock position offers 10% returns. The options position gains 80% of the stock price movement or $4 or 67%. So, the returns from options small investment $6 are $67 better than a 10% return on the stock. The unfortunate situation arises when trade moves in the opposite direction, you lose 100% of investment in options.
Valuable tips before you start options trading
- Avoid illiquid options trading
- Choose strike price correctly
- Understand time value behavior in options
- Choose expiry wisely
- Build a proper strategy
With options training, you can get empowered to enter the trading arena like professionals!