Option Definition – An option is a right, but not an obligation, to buy or sell and underlying asset at a specific price and on or by a stated expiration date.

Call Option – A call options is the right, but not the obligation, to purchase an underlying futures contract at a specified price at a specified time.

Put Option – A put option is the right, but not the obligation, to sell an underlying futures contract at a specified price at a specified time.

Option Premium – The premium is the price you pay for the option. It represents the maximum risk you experience when you don’t exercise the option.

Strike Price – The predetermined price in the options contract at which the underlying asset is bought or sold.

At the Money –  An option is at the money when the strike price is close or equal to the current futures price.

In the Money – An option is in the money when the strike price is less than the market price of the underlying security.

Out of the Money –  The call option is out of the money when the strike price is higher than the market price of the underlying security. Puts are out of the money if the strike price is less than the market price of the underlying security.

Delta – A measure of the effect of change in the price of the underlying asset on the option’s premium. It represents the amount of the change in the price of an option for each move in the price of the underlying asset equal to one point.

Volatility – A measure of how fast and by how much prices of the underlying asset change. It is a measure of the rate of price fluctuations.

Going in line with the market and exploiting the trends of the market is termed as directional trading. This proves to be perfect for beginners when they enter into the area of options trading.

Bullish Stock Option Trading Strategies

These strategies are useful when the value of a stock goes up. But the evaluations of the extent to which the stocks will be up and the timeframe for which this tends is likely to continue play a vital role in optimizing this strategy. Bull Call and Bull Put Spread are the couple of strategies that come under this category. The billing stock option trading strategy that is usually taken up by a newbie is to resort to a simple call option that often proves to be profitable in bullish markets.

Bearish Stock Option Trading Strategies

The bearish stock option trading strategies are incorporated by traders when there is a downward movement of the stocks with the intention of getting profited in options’ trading. Beginners just opt for a simple put option in case of the bearish market trends. Brea call or put strategy can be used case of bearish markets to make profits with ease.

Neutral Stock Option trading strategies

They can internally be categorized as bullish and bearish on volatility. The very common neutral trading strategies are straddle, strangle, butterfly, time spread and condor Straddle and Strangle are stock option trading strategies that entail equal number of call and put options with the same expiration date. The only distinguishing factor is that the strangle strategy ahs a couple of strike prices associated with it while the straddle has only one. Butterfly spread involves puts and call in bullish/bearish markets. Three strike prices are associated with this spread. The lower two are for a bull spread and the highest of the three prices is for a bear spread. Condor is analogous to butterfly. The difference is the different strike prices associated with the short put and short call.

A stock option trading course can further elaborate on the other stock option trading strategies in detail. Get to know the pros and cons of each and arrive at your own unique strategy to help you succeed in options trading in the long run.

A common goal for options trading is to make a profit. There are two basic ways investors profit from options trading. An investor can make money solely by trading options. Profit can also be made by exercising a stock option and buying or selling the stock.

For example, if someone buys call options and the price of the stock goes up, the investor can buy that stock at the strike price specified in the call option. That person can sell those stocks immediately to make a profit.

If someone has the option trading goal of owning a stock at a good price, that investor would use a different option trading strategy. An investor wanting to own stock may choose to sell a put option to give the buyer of the put the opportunity to sell the investor the stocks they want at the strike price.

Some stock investors use option strategies to protect their stock investments. A protective put is such a protective measure. The investor might buy a put to limit any loss in the value of the stock by giving the investor the right to sell the stock at the strike price. A protective put is also called a synthetic long call or put hedge.

Another protection strategy is an equity collar. The equity collar is used to protect stock the investor owns. An investor using an equity collar purchases one put option and sells or writes one call option per one hundred shares of the stock that the investor owns.

The state of the market can affect which option strategies are used. For example, if the stock is bullish meaning it is rising in value, the investor might want to use a option trading method called the bull call spread. A bull call spread is when the investor purchases an at-the-money call option and sells an out-of-the-money call with a higher strike price.

Similarly, a bear put spread is an options trading method that can be used if the investor expects the price of the stock to drop. To use the bear put spread strategy, the investor buys a put option on a stock and sells a put option for the same stock at a lower strike price.

Investors need to learn how to implement option strategies that will yield the results they want based on their investment goals. Details about various strategies for options trading can be researched online. The investor may want to consult an experienced investor.

Writing Covered Calls:
Writing covered call options can be thought of as getting paid for writing a limit sell order. As with a limit-sell order, a sell price is specified when the options order is entered which limits the maximum achievable capital gain when the contract is in force. If this sell price is not met when the option expires, you keep the options premium received (free money!) and the stock. The difficulty in implementing a covered call writing strategy is determining a personally acceptable maximum potential rate of return over the duration of the contract in relation to the options premium received.

Prerequisites:
As each call option represents 1000 shares of the underlying security, a covered call writing strategy can only be adopted on long positions involving at least 1000 shares. In addition, your brokerage account must also be approved for options trading.

Determining an Appropriate Options Series:
Determining what options series to open is highly subjective and is based on a number of factors unique to each investor such as the commission required to write options, the desired annualized yield from options premiums, and the minimum annualized capital appreciation. To determine the options series that I write for each of my positions, I use the following guidelines:

1.) Expiry Month
The expiry month of the options series determines how long the options contract will be in force. As an options’ time value decreases as it approaches expiry, writing contracts with an expiry far in the future will increase the options premium received for each contract. However, as the time value of options decays more rapidly the closer you are to expiry, the annualized options yield (premiums received per year) can be greater by writing options with expiries in near months (up to three months out).

My rule of thumb for most stocks is that using an expiry date three months into the future tends to provide a balance in terms of capital appreciation potential, options premium received, and trading commissions.

2.) Strike Price
The strike price of the option series sets the maximum price that you can ‘sell’ the stock for as long as the options contract is in force. In choosing a strike price, I look at the worst-case total return (capital gains over the life of the contract plus options premium received less commission) of the stock over the two to three month period to expiry.

In general, I tend to write out-of-the-money options with strike prices that allow a total return (not including dividends) of between 5-6% over the length of the options contract.

3.) Options Premium
As compensation for limiting the potential for capital gains over the length of the options contract, I want to receive at least a 5% annualized options yield (net of commission) on each position I write covered calls on. Ideally this yield would be higher, but with small positions (writing 1-2 calls at a time) commissions significantly reduce the options yield.

After examining a stock’s call option chain, if I cannot identify an expiry month and strike price that will provide an the annualized options yield greater than 5%, and a worst case total return (less dividends) of greater than 7%, I will not write the contract. Instead, I will wait until a more volatile market (options pricing increases with market volatility) and then enter into the position. Otherwise I do not feel adequately compensated over the duration of the options contract for the potential of lower capital gains.

Performance of Options Strategies:
Writing covered calls on open long positions will generally under perform the market in strong uptrends, but outperform the market in downtrends, flat markets, and provide equivalent returns during modest uptrends. By underperforming during strong uptrends and outperforming in downtrends or flat markets, the overall year-to-year highs and lows in the portfolio will be closer together resulting in lower portfolio volatility.

Over a number of market cycles, the total long-term return of covered call writing should at least equal that of straight buy-and-hold investing. However, the income generated by a portfolio active in writing covered call will be significantly greater than that of the buy-and-hold investor. This can allow for more frequent reinvestment of dividends and options premiums which can help to increase the overall compound growth of a portfolio.

To receive ASX Option Recommendations or to learn more about straddles and strangles please request the complete Straddles and Strangles eBook by contacting us on 1300 368 316 or info@totaloptions.com.au

Bear Put Spread
The main reason for buying a bear put spread is an expected decrease in share price. The aim of the directional is to have a high risk vs. reward ratio. The bear put spread can be traded when buying puts is too expensive due to high volatility and selling an options against the bought puts reduces cost, breakeven, volatility effect and time decay effect. The trade is suited to a share price in a downtrend. This strategy is suited for break out trades and trading trends.

Bear Call Spread
A bear call is traded when you are expecting a sideways share price movement to a slight decrease in share price. The bear call spread is a credit spread and can be traded as a type for income. The risk vs. reward can be set up depending on the aim of the trader whether to have high probability small profits or low probability high returns. This trade is suitable when volatility is high and expected to decrease. The bear call spread is traded to take advantage of time decay.

Bull Put Spread
A bull put spread is best suited for a sideways to upward trending share price. The bull put spread is a credit spread and can be used as an income generating strategy. The bull put spread is best implemented when there is high volatility in the puts your outlook is volatility to decrease. This may be because the share price is just above a major level of support or at the bottom end of a trading range. The bull put strategy is traded to take advantage of time decay.

To receive ASX Option Recommendations or to learn more about Bull Call Spread, Bull Put Spread, Bear Call Spread, Bear Put Spread Strategies please request the Option Spreads eBook by contacting us on 1300 368 316 or info@totaloptions.com.au

• The loss is limited to initial investment.

• If the share price fails to rise beyond the strike price of the out-of-the-money sold call option, the profit yield will be greater than just buying call options.

• It is also a way of buying call options at a discount by selling the out-of-the-money call option at a strike price beyond that which the share price is expected to rise.

Disadvantages of Bull Call Spread

• There will be no more profits possible if the share price rises beyond the strike price of the sold out-of-the-money call option.

• The net delta of the combination is less than just buying a call option so exiting trade early is not as profitable as buying a call.

To receive ASX Option Recommendations or to learn more about Bull Call Spread, Bull Put Spread, Bear Call Spread, Bear Put Spread Strategies please request the Option Spreads eBook by contacting us on 07 5504 2244 or info@totaloptions.com.au

Debit Spreads

A debit spread is when the trade is set up for a cost and you have to pay a certain premium. If you are paying more for the bought option than receiving for the sold option it is a negative cash flow position. The strategies that are debit spreads are Bull Call Spread and Bear Put Spread.

Credit Spreads

A credit spread is when you initially receive a premium. If you are receiving more for the sold option than paying for the bought option it is a positive cash flow position. The strategies that are credit spreads are Bull Put Spread and Bear Call Spread.

A bull spread is profitable when the share price increases while a bear spread is profitable when the share price decreases.

To receive ASX Option Recommendations or to learn more about Bull Call Spread, Bull Put Spread, Bear Call Spread, Bear Put Spread Strategies please request the Option Spreads eBook by contacting us on 07 5504 2244 or info@totaloptions.com.au

To receive ASX Option Recommendations or to learn more about Bull Call Spread, Bull Put Spread, Bear Call Spread, Bear Put Spread Strategies please request the Option Spreads eBook by contacting us on 07 5504 2244 or info@totaloptions.com.au

Summary

When buying options look to take advantage of their leveraged nature to allow large return with small capital outlay. When selling options look to sell when volatility is high and expected to decrease to help use time decay in your favour.

The information in this e-book is designed so the following Total Option Education Webinars and eBooks will build on this knowledge. The strategies in this book are used by traders everyday however they are normally used together to try and mitigate risks like time decay and volatility.

To receive ASX Option Recommendations or to learn more about trading options please request the complete Introduction to Options Trading eBook by contacting us on 07 5504 2244 or info@totaloptions.com.au