In this new series of articles, I will focus on the many different options strategies, and will give examples of how traders are currently applying them.
I will start with the simplest strategy today, and in the future I will move on to more complex, yet still easy to implement and instantly usable, strategies.
Options are confusing and frightening to many new traders. All this talk of the Greeks, Volatility, Time Decay and Spreads are like a foreign language to the inexperienced. Truthfully, there are a lot of odd-sounding terms in the options trading world.
However, like almost everything else, it all seems more complex than it actually is. Whenever I use an option term in these articles, I will define so there is no confusion if your new to this market.
The most basic option strategy is the simple purchase of a put or a call.
A put is purchased if you expect the underlying stock to go down.
A call is purchased if you expect the underlying stock to go up.
Each option represents 100 shares of the stock and has a finite lifespan. Options are represented in a code-like structure that consists of the root symbol + expiration month code + strike price.
Just what do these terms mean?
The root symbol refers to the stock symbol but is not the same as the ticker symbol. Root symbols can be found by looking at the options available for each stock via your broker or one of the many free option information services on the web. The expiration month code is the code for the month the option expires - January through December.
Options normally expire around the 15th of each month for that month.
Strike Price is the price where the option begins to have intrinsic value, meaning actual worth and simply not just time value. If the option has a strike price greater than the price of the stock, a PUT is said to be "in the money" and a CALL would be "out of the money" and vice versa.
Here is a grid showing the codes, courtesy of YAHOO FINANCE:
Ok, now that we have the very basics out of the way, let’s look at an actual example of a trade that could be potentially made today.
It appears on this chart that Anheuser Busch BUD (BUD) is starting to add to its recent gains, it is currently trading around 56.55 and looks like it may continue its run toward 60 in the very near term.
Traders who would have this bias, and are not adverse to risk could potentially look at the June 60 calls to make a trade. The symbol for this option is BUDFL and it is trading around .85 cents per option right now. It is important to note that .85 cents means $85.00 per option to control 100 shares of BUD or $5650 worth of stock.
If the stock goes up from here, the BUDFL option will increase in price, down it will decrease, however, it expires on June 15th either with the stock above the strike price of 60 or below.
If you believe BUD will fall from here, the obvious thing to do would be to purchase a PUT in the same manner of the call explained above.
This is option trading at its most rudimentary. Further articles will explain different strategies and ideas.
Dave Goodboy is Vice President of Marketing for a New York City based multi-strategy fund.
