Options can be an intimidating investment prospect for both new and experienced traders alike. But as you’re about to see, they really aren’t all that scary once you get the basics.
In fact, they have two main advantages over traditional stock investments.
When most people think about stock trading, they think of either penny stocks you can trade with a small account (which are super volatile), or day trading, which requires you to have a massive account (usually $25,000 just to start).
So you’re either taking on a lot of risk by trading cheap penny stocks, or you’re shelling out a boatload of money up-front to own more stable companies.
Now when you buy options, you’re buying a contract that gives you the right to buy or sell 100 shares of a stock at a specific strike price by a certain expiration date.
Right off the bat, you already know how much risk you’re taking on because the most money you can lose on an options trade is the initial premium you paid for it.
Compare that to a stock, which can end up costing you more money than your initial investment if it drops below your purchase price.
So you have limited downside risk with options, versus potentially losing all of your money in stocks because they can fall all the way to $0.
Options also require less upfront financial commitment than buying shares of a company outright. So you can trade them with a much smaller account — often starting with as little as $2,000.
Let’s look at a theoretical example of how this works…
Say you want to buy 10 shares of Apple Inc. (Nasdaq: AAPL) at $100 per share. That’s going to cost you $1,000 up front, which can tie up most of your portfolio if you’re starting with a smaller account.
Instead, you decide to buy one call option of Apple, representing 100 shares of Apple’s stock. In this scenario, that call option is only going to cost you $1, or $100 total (that’s $1 multiplied by 100 because one contract is 100 shares).
Now you get to control 100 shares of Apple instead of just 10 — for far less money up front.
And let’s say that stock goes up $5 over the next week. If you’d bought common stock of Apple, you’d make $5 per share. So you’d come away with $50 if you own 10 shares.
But if you bought the call option for $1 and Apple’s stock went up $5, that call contract could go from $1 to $2 in just one week — which would double your money.
Meanwhile, you only risked $100 instead of the $1,000 that would have been tied up by buying Apple’s stock outright.
I don’t know about you, but that sounds like a pretty good deal to me.
So the next time you’re thinking of adding positions to your portfolio, consider giving options a try. Not only are they a tool used by advanced and professional traders, but they can significantly boost your portfolio return in record time.
Future of Wealth, WealthPress
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