Trading on options is usually done in straight out Puts and Calls.
However there are a few other determinations that can be made and I will look at them briefly here.
First: Basic trading understanding.
1. A Call is a position you take up expecting your shares and option premium to rise in price.
2. A Put is a position you take up expecting your shares to fall in price and your option premium to rise.
Very briefly a Call premium price, when taken at-the-money and with regular delta expectations will rise about 60% of the share price.
That means if you pay 40 cents for a Call and bought 5 contracts - buying at market - and the share rose 50 cents, you would expect to receive approximately 30 cents profit - or 70 cents back for each 40 cents outlay.
Your outlay was 40 cents x 50 contracts x 100 units per contract = $2000.
Your return is 70 cents x 50 contracts x 100 units per contract = $3500.
Real Profit $3500 less $2000 = $1500.
If the share value was in the $30 area at this time you would have had control over the future price of $150,000 worth of shares all for an outlay of $2000.00.
A Put works in reverse.
You buy the Put at the option premium - again assuming you buy close to or at-the-money, then, as the share falls in price, your option premium price rises accordingly, and you take your profit at your target or at your following profit-stop if used.
A Straddle is when you take a Put and a Call on the same share at the same time and do so at-the-money. Eg A share price is $20.00. You take a $20 Call and a $20 Put usually over a short period of 4 to 6 weeks.
It doesn't matter which way the share goes as long as it goes. - and keeps on going - so you make a profit. If you took short 'time' - like 4 weeks or less, you can sell the option that moves the most and dump the other one for a cent or two. But if you took a longer time frame and the share moves both up and down in sufficient quantity you can cash in at both ends.
The key is to take a share that moves a lot and especially one that is currently exhibiting a lot of volatility. Never take a straddle on a share that is wobbling along on meagre averages and not going anywhere. This is known as a sideways movement or a sideways market.
You want shares that do 'breakout' of their existing levels of support and resistance, and do so regularly.
A Strangle is the more popular choice of some professionals as it is a cheaper option, and though you are taking a smaller delta you can still profit from either one end or both, provided the movement you anticipate in either direction - or both directions - eventuates.
A Strangle is when you take a Put and Call on the same share at the same time and you buy both sets of options out-of-the-money. Buying a little more time. Maybe buying 6 to 8weeks 'time.'
Eg a share price is $30.00. You buy options with a Call strike price of $31.00 and a Put strike price of $29.00. Because you are buying out of the money your option premiums are considerably smaller than with a straddle, where you buy at the money. If the share is a big price mover you could go an extra dollar or two out of the money - say $32.00 and $28.00.
All you need is some substantial movement in either direction to profit from this position.
Again, like a straddle, you only take strangles when a certain set of reoccurring circumstances exists.
The Long Strangle - A long strangle is to take both the Put and the Call.
(a) further out of the money and(Eg the share price is $30.00. It is now August 1st. You take a $27.00 October Put and a $33.00 October Call.
(Both low cost options.
(You may feel this is too far out of the money or over too long a period to make a serious profit.
(But there is a 'circumstance' that occurs when these Long Strangles become very viable trades - if you have a patient and waiting philosophy on life.
(This technique needs a lot of patience and skill in selecting highly volatile shares and selecting the 'time' to take the actions very carefully.
(It is quite possible, if following 5 high ticket volatile shares, to get 6 or 8 of these long strangles a year and create a virtual retirement income from them.
(But for the less patient of you I recommend regular Puts and Calls.
(I've mentioned delta a couple of times. So I will now expand on this. In fact I just for of noticed that this particular lesson has a lot of new stuff to beginners. And does appear complicated. But in fact it is not.
(Let me emphasise right now that you don't ever need to play straddles or strangles and you don't ever need to think about delta. But it is handy to know of these things.
(In the next lesson I will get back to simple easy to follow stuff and the digital options trading plan makes options trading for profit childs play. You can get more information here.
Delta.
Now you may have noticed - or you may not - that I did not mention this at all. It was just there. This was to keep it simple for newcomers who were being introduced to option trading for the very first time.
Here's what I interpret delta to be.
What you are seeing below is a position that says:
The deeper in-the-money your options are, the more the movement of the option premium will be compared to share movement.
And the further out-of-the-money you are the less premium movement you will get as share price changes. Remember there is no such thing as a delta of 0 and no such thing as a delta of 1. There will always be some fractional movement of share price reflected in option premium.
| Share price | Option Strike Price | Delta |
| $20.00 | $25.00 out of the money | Call 0 |
| $20.00 | $20.00 at the money | (Call or Put) 0.5 |
| $20.00 | $15.00 in the money | Call 1.0 |
Item 1 you are buying $5 out of the money. Delta is 0. This means that if the share price moves just a few cents you will most probably receive 0 increase in your Call Option price.
Item 2. Your share price and strike price are equal so you are holding options right at the money. While there is no hard and fast rule, if your share is not extremely volatile, you should receive 50% (0.5) to 60% (0.6) delta a variable fact as you have to overcome spread disadvantage if you have just bought, of the share price increase in your premium.
The further into the money you are the more that percentage should increase in your favour.
Item 3. Your option strike price is $15.00 and the share price is $20.00. Any further increase in price should give you close to but not exactly an increase of delta 1 which would be a cent for a cent. A possibility but not a practical reality.
In summary if you are buying at the money or one step out of the money or even one step into the money, your average delta will be 0.5 and for every 50 cents a share price increases your option price will increase by 25 cents.
The more into the money you move the higher % premium you will receive and the further out of the money the lower it will be.
And please note I have not made any allowance for 'time' in this example, which as you know decreases every day for all options and decreases the fastest towards expiry date.
Of course with a share price moving minute by minute and most sales taking place in the area of at the money or one strike price away, up or down, it is impossible to quote an exact delta and an exact increase in your premium.
Accept that you will get 50% and paper trade that way. If, in fact, you are closer to being at the money, then you may get 60%. However if the trade is slow you may only get 40%. Your objective is to cover the premium spread at both the buying and selling point and take a percentage of the price rise also to give you the 10 or 20 cents stop profit you were aiming for - .or you may be an advanced trader and be able to hold a super trade through a long price rise and make a huge profit instead of a small one.
I'll send lesson four tomorrow.
Next Page - Lesson 4 - Double Tops or Double Bottoms
