The world of investment securities features many different financial instruments for the new investor. Treasurys such as T-bills and bonds are a common instrument, as are stocks issued by corporations that trade publicly. Treasurys are distinguished from stocks, though, because the former offer a guaranteed rate of return on investment while stocks offer no guarantees of return or profit whatsoever. Smart stock investors, however, can employ a number of strategies to lessen their risk, including different methods for engaging in stock options trading.
Essentially, options give you the right to buy or sell a security at a predetermined price within a certain time period but no obligation to do so. In call options, buyers have a right to purchase an agreed-upon number of shares or other financial instruments, known as underlying assets, at a certain price, which is known as its strike price. When you purchase a call option from an options trader or contract writer you have up until a certain date, known as the expiry or expiration date, to make that purchase. In stock options trading, obtaining a favorable strike price on an options contract helps increase potential profit.
A great deal of business revolving around call option and put option contracts exists on the markets. Put options give their purchasers rights to sell the underlying assets in those contracts at predetermined strike prices. A put option is also the opposite of the call option, in that purchasers of puts hope that the sale price of the underlying assets in their contracts will be higher by the time those contracts expire. When you opt not to exercise your rights under put option and call option contracts you lose any right or obligation to purchase or sell the underlying securities contained within those contracts. All you've really lost, though, when not exercising your option in a call or put is the price you paid for that option, which is fairly low in comparison to the total value of the securities bundled in those contracts.
When it comes to stock options trading, call options convey a right to buy the securities in those contracts at prices you believe will be lower than what their prices will be at contract expiry. Typically, call or put option contracts are priced in blocks, such as 100 shares per contract. A 100-share call option contract, for instance, might be priced at $50, with the fee paid to the writer being .50 per share or a total of $50 (.50x100 = $50) to gain a right to purchase each share at a preset price by contract expiration.
Here's a basic example of a stock option transaction: you purchase a 100-share call option for $50 at $10 per share, expecting the stock's price to increase to $15 per share by contract expiry. At the end of your option contract's term the stock has risen to $15 per share and you pay $1,000 to buy the stock ($10x100 = $1,000) while quickly selling it for $1,500 ($15x100 = $1,500) and a 50% profit. Before you engage in any sort of stock options trading, though, understand thoroughly just how to exercise the rights inherent in call as well as put option contracts. Really, though, all a call or put option contract is, is just one more way to buy a stock at a low price and then sell it at a higher price.
Trading in stock options is more complicated than simply buying a stock at one price and subsequently selling it at a higher price. A major benefit to stock options trading, though, is that it can limit your "downside" or potential loss while increasing your upside potential or profit. After all, you're under no obligation to buy or sell the securities contained within a stock option contract. All you might lose in a call or put option contract is the premium you pay to the option writer to gain a right to buy or sell those shares.
Rookie options traders tend to make one common mistake when first starting out, and it lies in the fact that some take too many risks before they really understand stock options trading. Investors just getting into options trading should make an effort to thoroughly understand what an uncovered or "naked" option is, for example, because ending up holding too many of them can be financially ruinous. Options traders may find themselves in what are called "naked positions," which result when those traders end up writing contracts for options when they don't actually own any of the stocks or securities being sold or bought by their purchasers.
Writing contracts for options to buy or sell a given security such as a stock, when none of that security is even owned by the contract's writer, can carry extreme risk for traders. In fact, most brokerage firms won't even allow inexperienced traders to place naked or uncovered options orders. For the new investor interested in stock options trading, it's far better to take baby steps and engage in straight-up calls or puts on options contracts, which in and of themselves offer great profit potential. New entrants into the stock options trading arena are advised to seek the advice and tutelage of experienced options traders before going off on their own, in fact.
Essentially, options give you the right to buy or sell a security at a predetermined price within a certain time period but no obligation to do so. In call options, buyers have a right to purchase an agreed-upon number of shares or other financial instruments, known as underlying assets, at a certain price, which is known as its strike price. When you purchase a call option from an options trader or contract writer you have up until a certain date, known as the expiry or expiration date, to make that purchase. In stock options trading, obtaining a favorable strike price on an options contract helps increase potential profit.
A great deal of business revolving around call option and put option contracts exists on the markets. Put options give their purchasers rights to sell the underlying assets in those contracts at predetermined strike prices. A put option is also the opposite of the call option, in that purchasers of puts hope that the sale price of the underlying assets in their contracts will be higher by the time those contracts expire. When you opt not to exercise your rights under put option and call option contracts you lose any right or obligation to purchase or sell the underlying securities contained within those contracts. All you've really lost, though, when not exercising your option in a call or put is the price you paid for that option, which is fairly low in comparison to the total value of the securities bundled in those contracts.
When it comes to stock options trading, call options convey a right to buy the securities in those contracts at prices you believe will be lower than what their prices will be at contract expiry. Typically, call or put option contracts are priced in blocks, such as 100 shares per contract. A 100-share call option contract, for instance, might be priced at $50, with the fee paid to the writer being .50 per share or a total of $50 (.50x100 = $50) to gain a right to purchase each share at a preset price by contract expiration.
Here's a basic example of a stock option transaction: you purchase a 100-share call option for $50 at $10 per share, expecting the stock's price to increase to $15 per share by contract expiry. At the end of your option contract's term the stock has risen to $15 per share and you pay $1,000 to buy the stock ($10x100 = $1,000) while quickly selling it for $1,500 ($15x100 = $1,500) and a 50% profit. Before you engage in any sort of stock options trading, though, understand thoroughly just how to exercise the rights inherent in call as well as put option contracts. Really, though, all a call or put option contract is, is just one more way to buy a stock at a low price and then sell it at a higher price.
Trading in stock options is more complicated than simply buying a stock at one price and subsequently selling it at a higher price. A major benefit to stock options trading, though, is that it can limit your "downside" or potential loss while increasing your upside potential or profit. After all, you're under no obligation to buy or sell the securities contained within a stock option contract. All you might lose in a call or put option contract is the premium you pay to the option writer to gain a right to buy or sell those shares.
Rookie options traders tend to make one common mistake when first starting out, and it lies in the fact that some take too many risks before they really understand stock options trading. Investors just getting into options trading should make an effort to thoroughly understand what an uncovered or "naked" option is, for example, because ending up holding too many of them can be financially ruinous. Options traders may find themselves in what are called "naked positions," which result when those traders end up writing contracts for options when they don't actually own any of the stocks or securities being sold or bought by their purchasers.
Writing contracts for options to buy or sell a given security such as a stock, when none of that security is even owned by the contract's writer, can carry extreme risk for traders. In fact, most brokerage firms won't even allow inexperienced traders to place naked or uncovered options orders. For the new investor interested in stock options trading, it's far better to take baby steps and engage in straight-up calls or puts on options contracts, which in and of themselves offer great profit potential. New entrants into the stock options trading arena are advised to seek the advice and tutelage of experienced options traders before going off on their own, in fact.
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Before you even think about taking out a stock option make sure you stop by Option Millionaires at stock options trading for the best in option trading tutorials and training.. This article, What Call Options And Put Option Contracts Are: The Basics Of Stock Options Trading has free reprint rights.
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