How to Determine Whether to Buy Stock Options
Options are very risky for someone who has little knowledge of the stock market, but they can offer tremendous opportunities to an investor because of their increased leverage. Contrasted with owning shares of a company, when you own stock options, you have the right to either buy (a "call" option) or sell (a "put" option) a certain number of shares of a company at a particular price by a date that is specified.
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Instructions
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Buy a certain number of shares or invest in call options, and if the stock appreciates in value, you will benefit. But you can benefit less with an outright purchase. As an example, let's say that Sun Microsystems is selling for $5 per share. You can buy 100 shares, and if it goes up to $7.50, you have made a profit of $250 on your investment of $500, or 50 percent. Or you might pay $50 for a call option to purchase 100 shares by a later date. When the stock goes to $7.50 per share, you have made $250 on your $50 investment, or a 500 percent profit. If the stock goes down, you can lose any or all of your $500 investment, but if you buy a call option, you will lose only $50. Suffice it to say that options can generate tremendous profit without your taking an unacceptable risk.
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Make money even if you think a stock will go down in value. If you buy shares in a company, and their value falls, you will lose part or all of your investment. But if you buy put options, the right to sell that stock sometime in the future, you will win.
Let's revisit Sun Microsystems. The stock is selling for $5 per share and you thing it's likely that it will fall to $4 by a certain date. You buy a put option for $50, and if the stock falls as you have predicted, you will make $100 on 100 shares, or 50 percent profit on your investment. So you bought your put option when the stock was selling for $5, but you only paid $4 per share by the due date. -
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Trade options online because of all the available information. Furthermore, if you decide to begin investing in options, you will undoubtedly have more trades. So the less money you will pay in commissions, the more you will have working for you.
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Determine if you have the time to be successful. The more time you have to devote to researching and selecting options to purchase, the more likely you will choose options that make sense. As a rule of thumb, you need to spend at least 10 hours per week to be a successful options trader.
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