I like to think that I am like most people. When it comes to me spending my time, effort, energy, and especially money on something I first want to know what is in it for me! Why am I doing this? What do I gain by this? How does this benefit me? This holds true for most thing, including and most in particular, my education.
Now mind you, I am not just referring to school but any education that can make you better at what you do.. This includes an education in investing which is an important topic to all of us nowadays!
So why learn about options? Why put your time, effort, energy, and money into learning options?
Here are Four Major Reasons Why You Should Consider Trading Options
Reason #1: Cost Efficiency
How many times have you had to pass on what turned out to be a fantastic opportunity to get long or short a stock only to pass on it because of the price of the stock? I am sure you all have stories about the “big one that got away” in the stock market!
This is probably due to the fact that the opportunity that you found was in a very expensive stock like a Priceline (PCLN) or a Google (GOOGL). However, the use of an option may have allowed you to have made the trade and the money that would have come away with catching that big fish!
For instance, say if you did find a moment in GOOGL when you were sure the stock was going to go up but you could not afford to buy 100 shares of GOOGL, a $660.00 stock. Where you might not have been able to afford the $66,000 to buy the stock, you may have been able to afford to buy a $64.00 call that would mimic the stock movement to 70% but only cost you a total of $6400.00 (call price x 100 x 1).
That total cost is just less than 10% of the amount of the money that you would have spent on the stock. This may just be suddenly affordable to you………and now, this time, the big fish doesn’t get away!
Reason #2: Return on Investment (ROI).
Using our above example in GOOGL, let’s look at the comparison in the rates of return on the stock versus the option. If the stock would trade up $40 over the next month or so to $700, your stock position will have made $40 for a return of 6%.
If the stock trades up $40, the call option will trade up 70% of that $40 dollars for a total gain of $28. On a $64 call, that $28 represents a 44% return which is obviously much better than a 6% return. The significance of the higher return means that your money is working harder for you in the option than it is in the stock.
Reason #3: Mathematical Leverage.
Mathematical Leverage is the good leverage that is available in options. It does NOT involve borrowing money which is the bad and the source of the crisis that befell our markets in 2008/2009. Mathematical leverage allows you to buy the stock (if you so choose) at a certain level allowing you to not have to pay the full price of the stock down to $0 unless we have a profit and choose to take it. I will be explaining the mechanics of this in future articles. For now, it is important to know this advantage exists and is available to you when you trade options.
Reason #4: The ability to focus on Future Performance of the stock instead of past performance.
When I invest, I make my money (hopefully make as opposed to lose!) on what happens to the stock from here on out into the future, not on what it has done before. The stock’s current price is based on everything that the stock has been through up to now. Thus, when I pay for a stock, the money I am spending is more for what the stock has done as opposed to what it is going to do.
This does NOT help me as a trader or as an investor! By using the strike price, I can buy the stock only above a certain price and NOT have to pay for all of that “historical” value from the past! I can focus more on the expected value going forward than the value from the past which is what I actually want to do as an investor in order to make money.
What You May Have Heard About Options is Not Necessarily True
There are several other compelling reasons (advantages) why you will want to learn how to use options properly and I will cover them in upcoming articles . Until then, do yourself a big favor and go through these advantages with an open mind.
A lot of what you heard about options through the years is actually inaccurate or a downright lie. The nice thing is that options are mathematically based so everything I am going to say to you in my articles will be proved mathematically…..not by rumor or hearsay.
You owe it to yourself to learn the truth! Upon doing so, I will not need to convince you that learning options is worth every bit of your time, effort, and energy to learn about! See you next time!
Ron Ianieri is owner of Ion Options a company he started in 2010. He is also lead instructor at Options Monster Education and editor of the highly successful newsletter “The Income Strategist”. Ron has been trading options for more than 27 years and is also the author of the book “Options Theory and Trading” published by John Wiley and Sons. Currently Ron travels the world teaching investors the same successful Options class he developed during his years on the trading floor.