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The basics of options trading

By Kim

This article includes a simplified explanation of the basics of options trading. Stocks, mutual funds, and gold are some of the common forms of commodities in the stock market today. Unfortunately, not a lot of people know about options trading, especially the non financial-savvy people.

Coming across the term and researching about it on most financial websites may be difficult for most due to the number of jargons that are only used in financial circles. As such, this article provides a basic explanation about it for those who are interested in learning about the topic. Basically, options trading is similar to trading the aforementioned commodities but with a different risk.

 

What is Options Trading?

 

According to Learn Stock Options, Options trading is a type of investing that allows you to buy and sell contracts. Compared to stocks that allow you to own shares from a company, options trading is simply a contract between two parties. This contract can be in the form of commodities where it is promised to be delivered by the seller to the buyer for a specific time period and within a time limit. In options trading, losses will always be within a trader’s expected range. This is because the trader has the option to complete the purchase of the commodity within the time limit or simply let the contract expire. If a stock’s price go down, the trader will only lose the “premium” he or she has paid upon acquiring a contract.

 

Here’s an example: If gold-mining company Randgold Resources, Ltd announced that it is selling $20 per share and the premium price for every share is $1. That means for every 100 shares, it will cost the trader $2100 (21 x 100). In this case, the $100 is the premium that the trader has paid. If the stock’s price falls to $10 after several years, the trader can opt not to buy the entire share and lose only his or her $100 premium. On the other hand, should the stock’s price increase well over the years, the trader may complete the purchase and reap a decent amount of earnings.

 

Still confused? “Options trading” can be compared to innovations in trading today that require little investment but yield decent profits. For example, gold has always been an anti-inflation hedge and its price of trading and storing can be very high. However, Bullion Vault allows investors to purchase small amounts of gold and charge a low price for storing and trading them. Similarly, options trading allows traders to save on very high risks by making decent profits from investing small amounts of money.

 

But despite the minimal risk offered by options trading, it is still a form of investment that requires careful study. Traders can still lose big if they aren’t careful with options trading. This is just the basics of it and there are several more factors involved like leverage, stock’s time value, etc. For a more advanced knowledge on options trading, you may visit Complete Options for tips.

 

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