While trading online stocks you always must consider the risks involved with trading stocks. If your a beginner you will need to get a feel for using the internet and trading your stocks. You need to learn to walk before you can run, the simplest way I learned to trade stocks was to read about it and do some simulated stock games found around the internet.
Never use money you are not willing to risk, when you finally feel comfortable with online trading you will have to keep this in mind. You must realize the value of waiting it out, if a stock is going down should you pull yourself out of it? Not necessarily, sometimes you will need to wait out the storm to reach a calm safe zone. Play around with stocks a bit, learn if it's for you or not. If you are the type of person who cannot risk money to make money, maybe you might have better luck investing your money somewhere that is safer.
There is much money to be made online trading stocks, millionaires and billionaires have been made and struck down in a single breath from the stock market. Even when you feel everything is going well it could all of a sudden backfire and you could be left out in the cold. I personally invest in many different stocks, I am the kind of person who doesn't put all the eggs in one basket. I have learned from experience that doing this will leave a cold feeling in your heart towards trading stocks. So I went out and learned, sure I lost a few dollars here and there but I have been coming out of it for sometime now. I waited out the storms and stood my ground. I now make a pretty penny with online trading, but I had to find a comfortable spot to trade in.
If your new, like I once was your going to find many ups and downs. This is your learning period. Take in as much as you can while your in this learning mode. Don't go crazy and think your going to make millions if you only invest in this "one stock" forget the hype and play it safe until you find a comfortable place to hang your hat.
Friday, June 27, 2008
What Stock Should I Buy
Often, one of the first questions an investor asks is "What stock should I buy?" This question can involve a great deal of time and analysis. In many cases, the average investor will want to find out what the company does; review its financial statements; see if it pays a dividend, as well as how long that dividend has been paid and whether or not it will continue to be paid; discover whether the company's earnings are rising or falling; analyze its products; and so on. In other words, the investor does a great deal of fundamental research to find out if that stock is the one to purchase.
This analysis answers the question of what to buy. However, it says nothing of when to buy. The best stocks have periods when they perform worse than the market, just as the weakest stocks have times when they perform better than the market. If no one is going to buy the so-called best stocks, then they are not going to rise. On the other hand, if a large number of investors buy a fundamentally weak stock, then it is headed higher.
At DWA we use point and figure charts to determine when to buy stocks. By charting stocks with this method, we see the movement that determines whether supply or demand is in control of the stock. If it is supply, then the probability is high for that stock to decline. The odds favor a rise in the price if demand is winning the battle. You will also want to keep in mind that there are no dis-interested investors. Back in the 1920s, there was no Securities and Exchange Commission to regulate companies and when and what they reported. Rumors were rampant, and it was not surprising to see wealthy and knowledgeable investors pool their money to trade. These pools gave them a huge advantage over the individual investors.
Today the Internet creates stock movement. There are chat rooms everywhere and practically anyone can offer ideas. Remember that the person who is wildly promoting or recommending a particular stock more than likely already owns it. You will also want to keep in mind that the investor who is badmouthing a stock has probably just sold that stock or has sold it short, hoping to buy it back at a lower price.
In this environment, you need something that will help you sort through the morass of opinions out there to determine whether demand or supply is in control. We recommend using technical analysis, preferably the point and figure methodology. Let the fundamental analyst help determine what you buy. But let the technical analyst determine when you buy that particular stock. When the market is topping, typically the news stories are all good, and that is not when you want to buy.
This analysis answers the question of what to buy. However, it says nothing of when to buy. The best stocks have periods when they perform worse than the market, just as the weakest stocks have times when they perform better than the market. If no one is going to buy the so-called best stocks, then they are not going to rise. On the other hand, if a large number of investors buy a fundamentally weak stock, then it is headed higher.
At DWA we use point and figure charts to determine when to buy stocks. By charting stocks with this method, we see the movement that determines whether supply or demand is in control of the stock. If it is supply, then the probability is high for that stock to decline. The odds favor a rise in the price if demand is winning the battle. You will also want to keep in mind that there are no dis-interested investors. Back in the 1920s, there was no Securities and Exchange Commission to regulate companies and when and what they reported. Rumors were rampant, and it was not surprising to see wealthy and knowledgeable investors pool their money to trade. These pools gave them a huge advantage over the individual investors.
Today the Internet creates stock movement. There are chat rooms everywhere and practically anyone can offer ideas. Remember that the person who is wildly promoting or recommending a particular stock more than likely already owns it. You will also want to keep in mind that the investor who is badmouthing a stock has probably just sold that stock or has sold it short, hoping to buy it back at a lower price.
In this environment, you need something that will help you sort through the morass of opinions out there to determine whether demand or supply is in control. We recommend using technical analysis, preferably the point and figure methodology. Let the fundamental analyst help determine what you buy. But let the technical analyst determine when you buy that particular stock. When the market is topping, typically the news stories are all good, and that is not when you want to buy.
Wednesday, June 18, 2008
Investing in the Stock Markets
You have recently decided to start investing in the stock market, but you don't have any idea how it works, so you're doing a lot of research, but do you know what kind of investor you are?
There are a broad range of stocks available to invest in, and ideally, you want to pick the stocks that best match your investing style. What is your investing style you may ask yourself? Well, if are you interested in short-term growth with higher risks, than you may want to look at penny stocks. If you would rather not take as much of a risk, but allow your investment to grow over time, you may want to consider some type of income stock, which sometimes can even pay a dividend on the shares that you own. A dividend is a profit sharing incentive offered by some companies on the shares of their stock to help make up for the slower growth those stocks experience.
If you wish, you can invest in technology stocks, such as Google, or Yahoo, hoping to be a part of the next dot-com rush by maybe finding a company that will experience some explosive growth, or you can invest in health care stocks like Johnson and Johnson. Technology and health care stocks are known as sector stocks, one of the many available investment options that are available to you as an investor. Other types of sector stocks may include Public Utilities, Mining stocks, or even Pharmaceutical stocks.
You can find stocks that are cyclical in nature, their price is affected by what is happening in that industry, and if that industry is doing well as a whole, then those stocks will perform better and experience more growth, whereas if that industry is performing poorly, the stocks will reflect that and now show as much growth. The automobile industry is a good example of a cyclical investment, as consumers have more money to spend due to a good economy, they may decide to purchase a new vehicle, but when times are tough, they may choose to just repair the old vehicle.
There is also another classification of stock, which goes beyond growth, income, cyclical, or sector. Here we are talking about Preferred stock and Common stock. Some of the differences between the two are that in most cases, if a dividend is offered on the stock, a preferred stock dividend is pretty constant in the amount that is paid to the investor, meaning that the payout will not rise and fall as much as the dividends that are paid out on a share of common stock, which may fluctuate higher or lower.
If the company declares bankruptcy, and the assets are liquidated, those that hold preferred stock will be paid back before those that hold common stock, but in some cases, all the investors could loose their money.
Picking a stock can take some time as you see, and it requires a lot of research, but one of the first steps you want to look at is what do you want to achieve, and armed with that knowledge, you will soon find an investment option in stocks that best suits your needs.
There are a broad range of stocks available to invest in, and ideally, you want to pick the stocks that best match your investing style. What is your investing style you may ask yourself? Well, if are you interested in short-term growth with higher risks, than you may want to look at penny stocks. If you would rather not take as much of a risk, but allow your investment to grow over time, you may want to consider some type of income stock, which sometimes can even pay a dividend on the shares that you own. A dividend is a profit sharing incentive offered by some companies on the shares of their stock to help make up for the slower growth those stocks experience.
If you wish, you can invest in technology stocks, such as Google, or Yahoo, hoping to be a part of the next dot-com rush by maybe finding a company that will experience some explosive growth, or you can invest in health care stocks like Johnson and Johnson. Technology and health care stocks are known as sector stocks, one of the many available investment options that are available to you as an investor. Other types of sector stocks may include Public Utilities, Mining stocks, or even Pharmaceutical stocks.
You can find stocks that are cyclical in nature, their price is affected by what is happening in that industry, and if that industry is doing well as a whole, then those stocks will perform better and experience more growth, whereas if that industry is performing poorly, the stocks will reflect that and now show as much growth. The automobile industry is a good example of a cyclical investment, as consumers have more money to spend due to a good economy, they may decide to purchase a new vehicle, but when times are tough, they may choose to just repair the old vehicle.
There is also another classification of stock, which goes beyond growth, income, cyclical, or sector. Here we are talking about Preferred stock and Common stock. Some of the differences between the two are that in most cases, if a dividend is offered on the stock, a preferred stock dividend is pretty constant in the amount that is paid to the investor, meaning that the payout will not rise and fall as much as the dividends that are paid out on a share of common stock, which may fluctuate higher or lower.
If the company declares bankruptcy, and the assets are liquidated, those that hold preferred stock will be paid back before those that hold common stock, but in some cases, all the investors could loose their money.
Picking a stock can take some time as you see, and it requires a lot of research, but one of the first steps you want to look at is what do you want to achieve, and armed with that knowledge, you will soon find an investment option in stocks that best suits your needs.
The Art of Making Money in Stock Market
Most people know that the stock market is unpredictable. Losses in stock market investment are an inevitable part of the trading process. Therefore every stock market trader, howsoever shrewd and experienced he may be, is bound to incur a loss at one time or another.
So before you start trading in the stock market, you must be prepared to suffer losses like every other trader. This, however, does not mean that making money in stock market is more a matter of luck or chance.
This only means that you should make a thorough search, both fundamental and analytical, about the profitability of the stock before investing in it. Having done that you must be prepared to suffer loss since, as already said, the stock market always remains unpredictable.
You have to develop a mind set which should be prepared to take losses in your stride.
What is the use of developing this kind of mind set?
If you understand that losses are part of the stock trading, you will look at your losses with detachment and equanimity like a good sportsman. You will not be shocked and perturbed. You will not lose your perspective and you will be able to prepare yourself for the next game, next trade with a cool mind.
A disturbed mind cannot react properly. It is likely to misinterpret the graphs and charts of the market trends and draw wrong conclusions.
A constantly nagging fear of suffering another loss in the next trade may prevent a trader from investing which would mean that the loss incurred in the previous trade would not be recouped.
If you have a positive mind set and understand that you have to make money in an inherently mercurial market, you try to be realistic instead of perfectionist in stock trading.
A good trading day for a realistic and positive trader will not be one when he makes money. It would be the one when he has made both an extensive and intensive research in the stock he wants to trade in. He has made a thorough planning with discipline and focus and follows each step as per his planned strategy. Making money in stock market for such investors will become easy.
Experts in trading psychology believe that it is important to concentrate upon things which you can easily control. You should not try to lose your focus on attending things which you cannot control.
For example, while you cannot control the price trend, you can control your losses by using the stop loss tool effectively. You can understand the concept of support and resistance levels and use them successfully in your trading.
According to Tim Renolds, you should develop three basic strategies to stop your losses. These are price based, time based and indicator based strategies.
In order to use the price based stop loss strategy, you will have "to make a hypothesis about the trade and identify a low point in that particular stock market." Having done that, you should "set your trade entries near your points, thus making sure that losses will not be overly excessive if the hypothesis fails."
The time based stops involves making optimum use of your time. You should fix up a certain holding period to achieve your target in trading a particular stock. If you cannot achieve your target within that time frame, you should not keep that stock and sell it off.
The indicator based strategy involves understanding market indicators. As an intelligent trader you should become aware of the market indicators and utilize your experience to analyze them to your benefit. The market indicators include volume, advances, declines, new highs and lows and so on.
Experts in stock trading psychology recommend that you should set stops and "rehearse them mentally". It will help to ensure that you follow these strategies thoroughly and benefit from them.
Another important point is that you should immune yourself from the influence of mass psychology. It means that you should resist the temptation to do what the majority of stock traders are doing. You must make up your own mind whether or not you have to buy or sell a stock. You can make up your own mind only when you have done your own independent research and do not listen to the secrets and tips offered by your friends and stock market experts.
So before you start trading in the stock market, you must be prepared to suffer losses like every other trader. This, however, does not mean that making money in stock market is more a matter of luck or chance.
This only means that you should make a thorough search, both fundamental and analytical, about the profitability of the stock before investing in it. Having done that you must be prepared to suffer loss since, as already said, the stock market always remains unpredictable.
You have to develop a mind set which should be prepared to take losses in your stride.
What is the use of developing this kind of mind set?
If you understand that losses are part of the stock trading, you will look at your losses with detachment and equanimity like a good sportsman. You will not be shocked and perturbed. You will not lose your perspective and you will be able to prepare yourself for the next game, next trade with a cool mind.
A disturbed mind cannot react properly. It is likely to misinterpret the graphs and charts of the market trends and draw wrong conclusions.
A constantly nagging fear of suffering another loss in the next trade may prevent a trader from investing which would mean that the loss incurred in the previous trade would not be recouped.
If you have a positive mind set and understand that you have to make money in an inherently mercurial market, you try to be realistic instead of perfectionist in stock trading.
A good trading day for a realistic and positive trader will not be one when he makes money. It would be the one when he has made both an extensive and intensive research in the stock he wants to trade in. He has made a thorough planning with discipline and focus and follows each step as per his planned strategy. Making money in stock market for such investors will become easy.
Experts in trading psychology believe that it is important to concentrate upon things which you can easily control. You should not try to lose your focus on attending things which you cannot control.
For example, while you cannot control the price trend, you can control your losses by using the stop loss tool effectively. You can understand the concept of support and resistance levels and use them successfully in your trading.
According to Tim Renolds, you should develop three basic strategies to stop your losses. These are price based, time based and indicator based strategies.
In order to use the price based stop loss strategy, you will have "to make a hypothesis about the trade and identify a low point in that particular stock market." Having done that, you should "set your trade entries near your points, thus making sure that losses will not be overly excessive if the hypothesis fails."
The time based stops involves making optimum use of your time. You should fix up a certain holding period to achieve your target in trading a particular stock. If you cannot achieve your target within that time frame, you should not keep that stock and sell it off.
The indicator based strategy involves understanding market indicators. As an intelligent trader you should become aware of the market indicators and utilize your experience to analyze them to your benefit. The market indicators include volume, advances, declines, new highs and lows and so on.
Experts in stock trading psychology recommend that you should set stops and "rehearse them mentally". It will help to ensure that you follow these strategies thoroughly and benefit from them.
Another important point is that you should immune yourself from the influence of mass psychology. It means that you should resist the temptation to do what the majority of stock traders are doing. You must make up your own mind whether or not you have to buy or sell a stock. You can make up your own mind only when you have done your own independent research and do not listen to the secrets and tips offered by your friends and stock market experts.
Thursday, June 5, 2008
Options Trading Glossary - Terms Associated to Options Trading
There are specific terms associated with options trading and it is absolutely necessary that you know them by heart before you delve into the world of options. Here are some basic options trading terms to get you started.
But first, you must understand that options is an investment instrument that stems from stocks, and the fundamental principle of its function is to confer a options holder the right to buy or sell shares from the options seller at a stipulated amount within a stipulated time frame. You can equate this to placing a cash guarantee to purchase something within a time frame and preventing the seller from selling that item to any other interested parties.
Now why would you want to do this?
Well, for one, you might need to raise money to purchase that item and do not want the seller to talk to other potential buyers whilst you do your fund raising. For many, options trading is also a good investment instrument to make money off stocks they cannot afford. For others, options are a good way to protect their investments.
Before you learn how trading options can do the above, it is best that you learn all the terms relating to options trading.
CALLS AND PUTS
There are primarily two types of options - Calls and Puts.
A call option gives its buyer (holder) the right to buy 100 shares of the underlying security at the strike price, anytime prior to the options expiration date. The buyer is not obligated to exercise the option, thereby letting the option expire. The seller (writer) of the option has the obligation to sell the shares should the buyer exercise his option.
The opposite of a call option is a put option, which gives its buyer the right to sell 100 shares of the underlying security at the strike price, anytime prior to the options expiration date. The buyer is not obligated to exercise the option, thereby letting the option expire. However, the seller of the option has the obligation to buy the shares should the buyer exercise his option.
STRIKE PRICE
The strike price is the price at which the owner of an option can purchase (call) or sell (put) the underlying stock.
EXPIRATION DATE
The date on which an option and the right to exercise it cease to exist.
EXPIRATION FRIDAY
The last business day prior to the option's expiration date during which purchases and sales of options can be made. For equity options, this is generally the third Friday of the expiration month. Note: If the third Friday of the month is an exchange holiday, the last trading day will be the Thursday immediately preceding the third Friday.
EXERCISING THE OPTION
The buyer of a Call or Put option may choose to buy (in the case of a call) or sell (in the case of a put) the underlying shares of his option anytime, as long as it is within the effective date of the option. If he chooses to do so, this activity will be known as exercising the option.
ASSIGNMENT OF OPTION
When somebody exercises the rights of an option he owns, the Options Clearing Corporation will notify the seller of the option. Upon receiving the notification, the option seller is obligated to buy or sell the underlying stock at the strike price. This is known as the assignment of option.
OPTIONS PREMIUM
The price you pay to procure an option is called the "premium". An option's price is called the "premium".
WRITER
A writer is somebody who sells an option that is not owned through an opening sale transaction. While this position remains open, the writer is subject to fulfilling the obligations of that option contract. He will be obligated to sell stock (in the case of a call) or buy stock (in the case of a put) if that option is assigned. An investor who sells an option is called the writer, regardless of whether the option is covered or uncovered.
COVERED OPTION
An open short option position that is fully offset by a corresponding stock or option position. That is, a covered call could be offset by long stock or a long call, while a covered put could be offset by a long put or a short stock position. This insures that if the owner of the option exercises his rights, the writer of the option will not have a problem fulfilling the delivery requirements. Trading options using this strategy is secured because you can limit your losses.
NAKED OPTION
A short call option position in which the writer does not own an equivalent position in the underlying security represented by his option contracts. This is a more risky options trading strategy because your losses are potentially unlimited, although it can be quite rewarding on the upside too.
UNDERLYING SECURITY
The security an option seller must deliver (in the case of call) or purchase (in the case of a put) upon assignment of an exercise notice by an option contract holder.
EXPIRATION FRIDAY
The Expiration day for options is the Saturday following the third Friday of the month. Therefore, the third Friday of the month is the last trading day for all expiring options. This day is called "Expiration Friday". If the third Friday of the month is an exchange holiday, the last trading day is the Thursday immediately proceeding this exchange holiday. After the option's expiration date, the contract will cease to exist. At that point the owner of the option who does not exercise the contract has no "right" and the seller has no "obligations" as previously conveyed by the contract.
IN, AT, OUT-OF-THE-MONEY
The strike price, or exercise price, of an option determines whether that contract is in-the- money, at-the-money, or out-of-the-money.
If the strike price of a call option is less than the current market price of the underlying security, the call is said to be in-the-money because the holder of this call has the right to buy the stock at a price which is less than the price he would have to pay to buy the stock in the stock market. Likewise, if a put option has a strike price that is greater than the current market price of the underlying security, it is also said to be in-the-money because the holder of this put has the right to sell the stock at a price which is greater than the price he would receive selling the stock in the stock market.
The converse of in-the-money is out-of-the-money.
If the strike price equals the current market price, the option is said to be at-the-money.
This article was written by Richard T. Tyler, a veteran with over 20 years of experience in stock trading. Please read his other articles on options trading at Invest Money Stocks for a better understanding of using options as an investment instrument.
But first, you must understand that options is an investment instrument that stems from stocks, and the fundamental principle of its function is to confer a options holder the right to buy or sell shares from the options seller at a stipulated amount within a stipulated time frame. You can equate this to placing a cash guarantee to purchase something within a time frame and preventing the seller from selling that item to any other interested parties.
Now why would you want to do this?
Well, for one, you might need to raise money to purchase that item and do not want the seller to talk to other potential buyers whilst you do your fund raising. For many, options trading is also a good investment instrument to make money off stocks they cannot afford. For others, options are a good way to protect their investments.
Before you learn how trading options can do the above, it is best that you learn all the terms relating to options trading.
CALLS AND PUTS
There are primarily two types of options - Calls and Puts.
A call option gives its buyer (holder) the right to buy 100 shares of the underlying security at the strike price, anytime prior to the options expiration date. The buyer is not obligated to exercise the option, thereby letting the option expire. The seller (writer) of the option has the obligation to sell the shares should the buyer exercise his option.
The opposite of a call option is a put option, which gives its buyer the right to sell 100 shares of the underlying security at the strike price, anytime prior to the options expiration date. The buyer is not obligated to exercise the option, thereby letting the option expire. However, the seller of the option has the obligation to buy the shares should the buyer exercise his option.
STRIKE PRICE
The strike price is the price at which the owner of an option can purchase (call) or sell (put) the underlying stock.
EXPIRATION DATE
The date on which an option and the right to exercise it cease to exist.
EXPIRATION FRIDAY
The last business day prior to the option's expiration date during which purchases and sales of options can be made. For equity options, this is generally the third Friday of the expiration month. Note: If the third Friday of the month is an exchange holiday, the last trading day will be the Thursday immediately preceding the third Friday.
EXERCISING THE OPTION
The buyer of a Call or Put option may choose to buy (in the case of a call) or sell (in the case of a put) the underlying shares of his option anytime, as long as it is within the effective date of the option. If he chooses to do so, this activity will be known as exercising the option.
ASSIGNMENT OF OPTION
When somebody exercises the rights of an option he owns, the Options Clearing Corporation will notify the seller of the option. Upon receiving the notification, the option seller is obligated to buy or sell the underlying stock at the strike price. This is known as the assignment of option.
OPTIONS PREMIUM
The price you pay to procure an option is called the "premium". An option's price is called the "premium".
WRITER
A writer is somebody who sells an option that is not owned through an opening sale transaction. While this position remains open, the writer is subject to fulfilling the obligations of that option contract. He will be obligated to sell stock (in the case of a call) or buy stock (in the case of a put) if that option is assigned. An investor who sells an option is called the writer, regardless of whether the option is covered or uncovered.
COVERED OPTION
An open short option position that is fully offset by a corresponding stock or option position. That is, a covered call could be offset by long stock or a long call, while a covered put could be offset by a long put or a short stock position. This insures that if the owner of the option exercises his rights, the writer of the option will not have a problem fulfilling the delivery requirements. Trading options using this strategy is secured because you can limit your losses.
NAKED OPTION
A short call option position in which the writer does not own an equivalent position in the underlying security represented by his option contracts. This is a more risky options trading strategy because your losses are potentially unlimited, although it can be quite rewarding on the upside too.
UNDERLYING SECURITY
The security an option seller must deliver (in the case of call) or purchase (in the case of a put) upon assignment of an exercise notice by an option contract holder.
EXPIRATION FRIDAY
The Expiration day for options is the Saturday following the third Friday of the month. Therefore, the third Friday of the month is the last trading day for all expiring options. This day is called "Expiration Friday". If the third Friday of the month is an exchange holiday, the last trading day is the Thursday immediately proceeding this exchange holiday. After the option's expiration date, the contract will cease to exist. At that point the owner of the option who does not exercise the contract has no "right" and the seller has no "obligations" as previously conveyed by the contract.
IN, AT, OUT-OF-THE-MONEY
The strike price, or exercise price, of an option determines whether that contract is in-the- money, at-the-money, or out-of-the-money.
If the strike price of a call option is less than the current market price of the underlying security, the call is said to be in-the-money because the holder of this call has the right to buy the stock at a price which is less than the price he would have to pay to buy the stock in the stock market. Likewise, if a put option has a strike price that is greater than the current market price of the underlying security, it is also said to be in-the-money because the holder of this put has the right to sell the stock at a price which is greater than the price he would receive selling the stock in the stock market.
The converse of in-the-money is out-of-the-money.
If the strike price equals the current market price, the option is said to be at-the-money.
This article was written by Richard T. Tyler, a veteran with over 20 years of experience in stock trading. Please read his other articles on options trading at Invest Money Stocks for a better understanding of using options as an investment instrument.
Options Trading - an Overview of Call Options and How You Can Make Money With Them
Understanding how Call Options work and your choices in various scenarios relating to the fluctuation of the related stock prices are the fundamentals of Options Trading. This article gives an overview of Call Options and how you can make money through purchasing and selling Call Options.
A Call Option gives its buyer (holder) the right to buy 100 shares of the underlying security at a fixed price per share, at any time between the purchase of the call and the stipulated date when the option expires. The buyer has a choice and is not obligated to exercise the option. The seller (writer) of the option however, is obligated to sell the shares should the buyer exercise his option.
A buyer of a Call Option takes the position that the stock will appreciate (rise in value) within the effective date of the option, because that will result in a corresponding increase in value for that call. This means that there will be a higher market value in the call, which can be sold and closed at a profit. If not, he can also choose to exercise his option, which means that he buys the stock at a fixed price lower than the current market value.
On the other hand, the seller of a Call Option takes the position that the stock will depreciate (fall in value) within the effective date of the option, because that will result in a corresponding decrease in value for that call. This means that there will be a lower market value in the call. How this benefits the option seller is through the fact that the option buyer will not be willing to exercise his option as he will be paying a higher price than the fixed price in the contract. It will not make logical sense for him to do so as he would be losing money and he may as well exercise his option if he wants to purchase the underlying stock at all.
In such cases, the option buyer is most likely to either sell his option at a loss or move on or wait it out in the hope that the underlying stock price would rise. However, once his option expires, he loses his premium, which is the initial fee he paid to purchase the Call Option.
For a better understanding, let's further go on to illustrate various scenarios relating to the price of the underlying stock and take a look at the choices for action within each. Remember that this is in relation to Call Options.
Scenario 1 - The Market Value of the Underlying Stock Appreciates
In such a scenario, the value for the related Call Option will also appreciate. The buyer of such an option will have two choices. He can either choose to exercise his option and buy the underlying stock at a below current value price, or he can sell his Call Option for a profit.
Scenario 2 - The Market Value of the Underlying Stock Remains Stagnant
In such a scenario, the price of the underlying stock has not seen a change, or the change is too insignificant to create an opportunity for profit. The option buyer has two choices. The first choice he can make is to sell the Call Option before its expiration date. As the price of an option is determined by the remaining time before its expiration, the option buyer will most certainly see a loss if he sells his option without the underlying stock price seeing an appreciation. The magnitude of the loss will depend on how much time is remaining in the option before expiration. The second choice he can make is to hold on to the Call Option in the hope that the stock's market value will appreciate before expiration.
Scenario 3 - The Market Value of the Underlying Stock Depreciates
In such a scenario, the value for the related Call Option will also depreciate. The buyer of such an option will have three choices. He can sell off his option and accept his losses, sit it out in the hope that the stock value will appreciate, or simply let his option expire if his option is already nearing its expiration date.
This article was written by Richard T. Tyler, a veteran with over 20 years of experience in stock trading. Please read his other articles on options trading at Invest Money Stocks for a better understanding of using options as an investment instrument. You can also receive tons of free investment advice here.
A Call Option gives its buyer (holder) the right to buy 100 shares of the underlying security at a fixed price per share, at any time between the purchase of the call and the stipulated date when the option expires. The buyer has a choice and is not obligated to exercise the option. The seller (writer) of the option however, is obligated to sell the shares should the buyer exercise his option.
A buyer of a Call Option takes the position that the stock will appreciate (rise in value) within the effective date of the option, because that will result in a corresponding increase in value for that call. This means that there will be a higher market value in the call, which can be sold and closed at a profit. If not, he can also choose to exercise his option, which means that he buys the stock at a fixed price lower than the current market value.
On the other hand, the seller of a Call Option takes the position that the stock will depreciate (fall in value) within the effective date of the option, because that will result in a corresponding decrease in value for that call. This means that there will be a lower market value in the call. How this benefits the option seller is through the fact that the option buyer will not be willing to exercise his option as he will be paying a higher price than the fixed price in the contract. It will not make logical sense for him to do so as he would be losing money and he may as well exercise his option if he wants to purchase the underlying stock at all.
In such cases, the option buyer is most likely to either sell his option at a loss or move on or wait it out in the hope that the underlying stock price would rise. However, once his option expires, he loses his premium, which is the initial fee he paid to purchase the Call Option.
For a better understanding, let's further go on to illustrate various scenarios relating to the price of the underlying stock and take a look at the choices for action within each. Remember that this is in relation to Call Options.
Scenario 1 - The Market Value of the Underlying Stock Appreciates
In such a scenario, the value for the related Call Option will also appreciate. The buyer of such an option will have two choices. He can either choose to exercise his option and buy the underlying stock at a below current value price, or he can sell his Call Option for a profit.
Scenario 2 - The Market Value of the Underlying Stock Remains Stagnant
In such a scenario, the price of the underlying stock has not seen a change, or the change is too insignificant to create an opportunity for profit. The option buyer has two choices. The first choice he can make is to sell the Call Option before its expiration date. As the price of an option is determined by the remaining time before its expiration, the option buyer will most certainly see a loss if he sells his option without the underlying stock price seeing an appreciation. The magnitude of the loss will depend on how much time is remaining in the option before expiration. The second choice he can make is to hold on to the Call Option in the hope that the stock's market value will appreciate before expiration.
Scenario 3 - The Market Value of the Underlying Stock Depreciates
In such a scenario, the value for the related Call Option will also depreciate. The buyer of such an option will have three choices. He can sell off his option and accept his losses, sit it out in the hope that the stock value will appreciate, or simply let his option expire if his option is already nearing its expiration date.
This article was written by Richard T. Tyler, a veteran with over 20 years of experience in stock trading. Please read his other articles on options trading at Invest Money Stocks for a better understanding of using options as an investment instrument. You can also receive tons of free investment advice here.
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