| Options are one of the oldest trading | | | | Actually, any stock price at or below |
| vehicles man has ever used. Around a | | | | the strike price will be in his favor. |
| 1000 B.C Aristotle Thales predicted by | | | | However, here's a very bad scenario. The |
| the stars that there would be a bumper | | | | call writer sells short a naked call. |
| olive harvest and bought options on the | | | | And the stock leaps 50%. He's got big |
| use of olive presses. | | | | problems. Somebody's going to want to |
| When the harvest did in fact prove to be | | | | buy XYZ from him for $100 per share, |
| a great harvest Thales was able to rent | | | | just as the option contract states. |
| the presses at a significant profit. | | | | But he doesn't own any shares of XYZ. So |
| When you buy an option you have the | | | | he now has to go to the open market and |
| right but not the obligation to buy | | | | buy 100 shares at the current market |
| (call) or sell (put) a specific | | | | price, which is $150 per share. He took |
| underlying asset at a prearranged price | | | | in $400 of premium and now has to cover |
| on or before a given date. | | | | is with a $15,000 stock purchase, for |
| Similar to futures, options can give the | | | | which he will only receive $10,000. He |
| holder protection against adverse price | | | | loses $4600 ($10,000 - $15,000 + $400). |
| moves. | | | | Not a happy ending. |
| Call options when bought allow you to | | | | Do NOT even consider selling naked |
| buy an asset at a fixed price (strike | | | | calls. Your broker probably would not |
| price) on or before a specific exercise | | | | allow you to anyway. However, until you |
| date. | | | | really know what you are doing, don't |
| Exercise date: some options can only be | | | | sell naked puts either. When the bottom |
| exercised on a particular date and they | | | | drops out of a market, naked put holders |
| are commonly know as European options. | | | | get very, very badly hurt. They are |
| Options that can be exercised on or | | | | forced to pay high prices for low priced |
| before the due date are commonly known | | | | stock. You do NOT want to be in this |
| as American options). | | | | position! |
| A Put options is the reverse of the call | | | | An option gives you something called |
| option. When you buy a put option it | | | | leverage. Leverage is when you are able |
| gives you the right but not the | | | | to control a large amount of money with |
| obligation to sell an underlying asset | | | | a small investment. Each option contract |
| at a predetermined date. | | | | lets you control 100 shares of stock for |
| Now let's look briefly at the result of | | | | far less than the cost of buying those |
| selling naked calls. In this scenario, | | | | shares. But leverage is not the best |
| the call writer simply sells the call | | | | reason to trade with options. |
| and does not own any of the underlying | | | | True, with the leverage that options |
| stock to cover the short call. If the | | | | afford you, you stand to risk less and |
| stock plummets, the call writer is very | | | | make more, assuming things move in your |
| happy and relieved. | | | | favor AND in your time frame. Remember |
| The premium of $400 is his to keep, and | | | | the expiration date! You have traded |
| no one will be knocking on his door | | | | leverage for limited shelf life. If |
| asking to buy the stock for $100 per | | | | things don't move your way soon enough, |
| share, since it is available on the open | | | | you lose. So, what is the main reason to |
| market for $50. It's his ideal scenario. | | | | trade options? Spreads! |