You might begin by subscribing to a good stock option newsletter that includes the latest tips and strategies for investors who engage in options trading. Such a newsletter will be vital for an investor when deciding the fate of his or her options.

You will find that many brokerage firms offer helpful publications and tips by email to help novice option traders sound advice and strategies. After all, brokerage firms profit when you are successful. There is also a wealth of information regarding options trading readily available in books at your public library and local bookstore. The most successful investors spend endless hours soaking up knowledge on topics regarding stocks and option trading.

In addition to the numerous books available at your local library and bookstore, many websites offer ebooks, newsletters, and publications dedicated to the subject of options trading – the Chicago Board of Options Exchange (www.cboe.com) is a great resource. You may also consider joining an investment club for even more guidance and help. These clubs typically provide members with stock option trading newsletters as well as options trading tips. You may also want to consider networking by joining an affiliation. It is important to arm yourself with as much information as possible if you are considering options trading as an investment strategy.

Options trading should never be viewed as a get rich quick scheme. As with anything else, it requires experience and knowledge to be successful. Therefore, it is advisable to gain as much knowledge as possible before even considering this avenue. Take advantage of electronic updates and newsletters for research and choosing the best options. However, you should keep a balanced perspective when utilizing this advice. Keeping all of these things in mind will definitely increase your chance at profitability with options trading.

Also, it is advisable to keep in mind that you should only invest your expendable finances since there are always risks associated with investing of any kind. You would not want to risk your retirement fund for investing. Be knowledgeable and sensible about your options trading strategies and you will increase your potential profits.

Option trading, in and of itself, is not inherently risky. Options are simply tools. Imagine a big dial labeled, Options. You turn the dial one way and your risk goes down (as do your potential rewards). You turn the dial the other way and your risk goes up (as do your rewards, either in the form of upfront cash, or in the form of potential profits). In short, you can use options (for the right price) to reduce your risk, and you can use options (if the price is right) to generate lucrative income or receive other compensation in exchange for taking on someone else’s risk.

Let’s look at some scenarios that show each side of the risk trade.

Using Options to Reduce Risk

There are various option trading strategies you can employ to reduce the risk to your stock holdings. The price you will have to pay may come in the form of an actual cash payout to purchase that protection, or it may involve exchanging some of your future potential profits in order to acquire that protection.

Here are two trades that will reduce your risk:

Using Options to be Compensated for Assuming Someone Else’s Risk

If you are willing to assume someone else’s risk you can be compensated–and sometimes quite handsomely–for your trouble. The compensation may take the form of sharing the capital gains on someone else’s stock, or it may simply take the form of a cash payment.

Here are two types of trades in which you are compensated to assume someone else’s risk:

Conclusion:

The option trade examples above are all relatively simple but they illustrate the true nature of stock options. Trafficking in options is essentially trafficking in risk. No matter how elaborate and complex an option trade becomes, the core equation of risk is still present.

Developing and maintaining an awareness of this reality of options is crucial to your own option trading success. Whether you’re looking to reduce your risk or to be compensated for assuming someone else’s, a conscious awareness of what’s really happening in any given options transaction is invaluable. Once you know what’s really at stake, you’re in a much better position to consciously look for ways to accomplish your objectives as efficiently as possible. The outsourcer of risk will seek to reduce risk as cheaply as possible, and the assumer of risk will seek the highest compensation for the risk assumed.

An option is a derivative, meaning its price is based on an underlying asset. These underlying assets can either be stocks, Indexes or ETFs. An options trade involves giving someone the “right to buy or sell” a certain stock at a certain price by a specific time. Options help the investor to purchase stock at a lower price and to gain from a stock price’s rise or fall. If you buy an option to purchase securities, then it’s called a “call” option. If the option you buy is to sell securities, then it’s a “put” option. There is also a put and call option, whereby traders purchase both calls and puts on the same stock, with agreed prices and by an agreed date. Buying an option gives you the right, but not the obligation to purchase the asset at a specific price (called the strike price).

The hardest part of options trading is understanding all the jargon. But once you understand all the technical names, you’ll soon find out that basically what you really need to know is which way you think the stock price is going to go in the near future. Once you have an idea what’s going to happen, then all you need to do is use the right option trade to profit. For instance, if you expect a stock’s price is going to increase, then you would purchase a call option on that stock.

Options are not issued by companies like stocks are. All options that exist are “written” or sold by another trader somewhere. Therefore, you are directly betting against that person if you buy an option.

For Call options, if the price of the underlying asset is below the strike price of the option then it is “out of the money,” when the price of the asset crosses above the strike price it is called, “in the money.” This too works the opposite way for Put options. The price of the option has the greatest percentage moves when it crosses from out of the money to in the money but out of the money options also have the most risk.

So if you don’t want to risk large amounts of capital, but still want to use a smaller amount of money to gain from price variations, options trading can be the answer. There are very few risks and an option buyer cannot lose more than the price of the option, the premium.

There is much more involved with trading options, but these are just some of the most basic concepts to help you get started. The bottom line, is that options trading is something that you should only try once you’ve spent some time learning about the stock market, and if you can make decisions calmly when the pressure is on. A lot of information must be learnt before an educated trading decision can be arrived at.

Only being aware of what you think about the option is not enough, it is prudent to know what others think about the option also. You should talk to people who trade in stock options, read books on that topic and do everything possible to keep your self abreast of all that is related to stock options. Doing this should fairly give you an idea of trading in stock option, to get some practical experience; you could also try “trading on paper”

There is no ground rule to choose the winner stock, you have to do an extensive research on your prospective company and then decide whether it is worth while to invest.

The basic things that you ought to check in the company are; 1. Company’s track record; it is important that you look at the performance of the company in the past few years. 2. Check the price of its stock and its volatility; more often than not after a technical analysis of the stock price you will be able to speculate its price movement. 3. Keep an eye on any current news such as stock split, mergers or accusations or any other investment that the company may be going in to.

In option trading, you can make money either ways. If you expect the stock price to rise, you should buy a call option. A call option is a right that the option holder enjoys, to buy the stocks of the specified company at a specified price. This specified price is called the exercise price. Now, if you buy a call option you will gain if the stock price rises, because you have the right to buy the stock at the exercise price at the expiration of the option. This way you can acquire the stock at a lower cost and sell it in the open market at the market price, there by booking profit. You can also sell the call option if you are expecting the stock price to fall. In this case there is one catch; you are exposed to unlimited loss and limited gain. Your gain is the premium amount that will be paid to you by the buyer of the option, on the other hand if the stock prices rises instead of falling then you will have to buy the stock at a higher price from the market and sell it at the lower exercise price, to the buyer of the call option. This is a naked or an uncovered call option. You can hedge yourself by purchasing a call option with a lower exercise price and a longer maturity. Similarly when you buy a put you are expecting the price to fall and when you sell a put you are expecting the prices to rise.

If you trade correctly and maintain the right balance of risks you can surely emerge a winner in stock option trading.

1. The stock’s past history and movement.

2. Expected earnings reports of the stock’s parent company.

3. Volatility and volume of shares traded daily.

4. Any current news concerning the company’s growth or profitability.

5. The price of the option with respect to how you think the stock will perform. If you do not feel the stock’s movement will handily offset the cost of the option, plus the trading fees, then buying or selling the option would be fruitless.

6. Supply and demand of the underlying stock. (Industry group market action.)

Once you have decided upon which stock to pick, you next need to decide whether you believe the stock’s price is likely to rise or fall. (With stock options you can make money in either direction.)

By purchasing a Call option:

1. You expect the price of the underlying stock to rise, so you can then purchase it at the lower strike price, making a profit in the transaction.

2. You have the right to control 100 shares of stock for a fraction of the cost of purchasing the stock outright.

3. You are managing your risk by limiting the downside to the premium paid for the option. The major downside to buying any option is time decay. Your option expires within a finite period of time. If the underlying stock price behaves as expected, you will not need to be concerned about execution.

Having shown you the benefits of buying Calls over the risks of purchasing the stocks outright, we must emphasize the fact that buying short-term Calls has its associated risks as well. A Call buyer, especially a short-term Call buyer, is severely limited by the time-decay factor. The nearer to the expiration of an option, the less the option is worth, and the less time is remaining for the option to become profitable. Within the leverage used by gambling casinos (the house), the concept of short-term Call buying is completely understood, as well as exploited, as gamblers are considered short-term Call buyers.

Example: Consider your long-term Put, or Call, as a 6 to 8 month license to operate a casino. It allows you to capture short-term premiums; money that gamblers continuously give to you in attempting to beat the odds by speculating they will make profits on very risky bets. They feverishly feed the slot machines, ante up at poker, double-down on blackjack, or spin the roulette wheel. The odds are overwhelmingly against these short-term buyers. You, as the casino owner, continuously capture these short-term premiums, easily offsetting the expense of the license to operate the casino, then earning substantial, clear profits in the following months. They know the odds are with the casino owner, but they still take the enormous gamble on the slim chance they will hit a jackpot. The lottery works in the same manner.

On one side of the position, the transaction is definitely gambling, while on the other, the casino is simply engaging in business. Would you rather bet on the remote chance of a gambler’s rare, limited success, or rake in the steady, routine premiums captured from operating a successful business? Yes, occasionally a gambler does beat the odds to enjoy a limited, windfall return on his bet. For the casino owner, that is simply part of the cost of doing business. But we all know where the true, long-term profits lie. 30%, 40%, 50% and more, are common, and in short periods of time. The odds are with the short-term option seller, not the buyer.

When you choose a stock for short-term Call buying, you not only must carefully consider the proper stock for the type of option you are purchasing, you must also decide which direction the stock will move, then, that movement must occur within a specified, very limited period of time. Many investors have gone broke by attempting to make those same decisions. In short, time is not on the side of the short-term option buyer. It is on the side of the option seller.

Summary: 1. Buying stocks is risky.

2. Buying short-term options is less risky, but still risky.

3. Selling short-term options is the least risky, especially with a hedge, or insurance.

By selling a Call option:

1. You expect the underlying stock price to fall, so the option will not be exercised, but expire, worthless.

2. You can capture the entire premium that was paid to you, as profit. If the underlying stock price rises, you are obligated to sell 100 shares of stock at the lower strike price. If you do not already own those shares, you would then have to buy them at a higher market value, then sell them at the strike price, in order to meet your obligation. This situation is called a “Naked,” or “Uncovered” position, and is extremely dangerous. Anytime you sell a Call option you should consider buying the same option with a slightly lower strike price, and longer expiration date. This will reduce your profit potential, but will also reduce your risk considerably. (Remember the parallel twins, Risk and Reward

- If you want to reduce risk, you must also give up some degree of potential rewards. You may wish to lower your cost basis in the stock, to the extent of the premium received.

By purchasing a Put option:

1. You expect the price of the underlying stock to fall, allowing you to sell stock at the higher strike price, and thereby earning a profit.

2. This option is also used in a combination strategy as a hedge against selling Puts. We will explore that strategy later, in detail.

3. Buying Put options could also be used as a hedge, or insurance, against the possibility of a price drop in stock you already own. Consider the following:

You own 100 shares of ABC stock, and are concerned that the stock price could suddenly fall. You purchase a Put option on the same stock, with a strike price at current market value. If your stock falls in price, you would have the right to exercise your option and sell 100 shares of ABC stock at the higher strike price. The premium you paid for the option could be far less than the loss you would have incurred without that insurance. In this instance buying Puts acted as a hedge against the possibility of a price decrease in the stocks you already own. If the price of the underlying stock increases, your loss is limited to the premium you paid for the option. The option acts as an insurance policy against possible loss.

Selling a Put option without an opposing hedge -”Naked” You expect the price of the underlying stock to increase, causing the Put option you sold to expire worthless. You can then capture the entire premium paid to you, as profit. If the underlying stock price were to fall below the strike price, then you would be obligated to purchase the stock at the strike price, or pay the difference between the strike price and the stock price, if you do not want to own the stock. Your upside is limited to the premium received for selling the option. Your downside is potentially unlimited to the base value of whatever you could sell the stock for on the open market, or to the difference between the strike price and the stock price. This is a “Naked,” or “Uncovered” position, and should never be allowed to occur, unintentionally. Without the implementation of combination strategies, the main objective of the Put seller is to hope the option expires, allowing him to capture the entire option premium as profit. Nearing expiration, if the stock price moves below the strike price, changing the option’s value to ITM, and highly vulnerable to exercise, then the option seller must move quickly to buy back the option, perhaps lessening his profit potential, while also managing his risk. Even so, a small loss would be better than having to buy 100 shares of stock at inflated prices. Also, the loss can be immediately compensated for by simultaneously selling another Put expiring in the following month. We use OPM (Other People’s Money) to buffer downside risks, while buying more time for the stock price to rise.

Stock Option Trading, when done properly, can drastically reduce, or even eliminate, these two stumbling blocks to stock market success. In the first place, A trader of stock options never is not required to own the underlying stock in which an option is based. He or she can design a trade in such a way that downside risk is limited to the cost of the option, which in itself is a fraction of the cost of the stock. We capitalize on traders and speculators greed to get rich who purchase overvalued short term options bid up to inflated levels by an excess of demand over supply, by being the house or casino owner and capturing the inflated premium from the players or buyers. We buy reinsurance at a low cost by purchasing a longer term ( 5 to 6 months) out of the money option to sell the stock at a fixed price no matter how low it may drop. We buy this reinsurance ( puts ) to create a profitable hedge and sell overvalued puts repeatedly, month by month to bring the cost of our hedge down to zero and a credit so that we can enjoy a free ride capturing this inflated premium income. This strategy is known as diagonal put spreads and you do not need to pick a winner to profit.

However, trading stock options can be a great way to leverage your investment. For a small fee, with a defined risk, you can control a large amount of stock. The primary thing to remember, options are a wasting asset. When expiration Friday arrives, the option expires. If the option is in the money, you can either use it purchase the stock or redeem the option for the premium value. If the option expires out of the money, you have lost your investment.

Most people try to guess which direction the market is going to move, will it go up or will it go down. If they guess wrong, they lose money. More people trade with call options instead of put options, because they understand going long on the market but do not understand going short.

The vast majority of traders do not utilize trading strategies such as straddles or strangles, much less condors or butterflies. As a result, they are taking on a lot more risk, with less chance of making a profit.

If the beginning trader would take the time to learn some of the various trading strategies, they would greatly decrease their risk and improve the odds of having winning trades tremendously.

Learning the complex option trading strategies is not that hard. First you learn about the simple puts and calls options. When you understand the basic building blocks, you move on to combining the various strike prices and expiration dates. Even the most complex stock option trading strategy is made up of simple puts and calls.

These strategies will reduce the risk to a much lower level. The down side to these trades is you lower the return on the trade. But if the trade goes bad, the strategy will minimize your loss. If you still have money, you can still keep trading. If you lose all of your capital, you are out of the game.

So the people that say day trading stock options is risky are correct. But if you take these simple steps, then you can lower the risk, and still maintain the leverage that trading options will provide.