How to Trade Oil Options
Oil is the lifeblood of any industrial economy, and as demand for it grows, the price will continue to skyrocket. If you have looked at investing in oil, but think that it is too expensive, then think again. A simple way to invest in it without breaking the bank is to buy options on oil stocks or ETFs (exchange traded funds). In some cases, you can purchase an oil options contract for as little as $30.
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Instructions
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Open up an options brokerage account. You will want to make sure that the broker is a member of the Stock Investment Protection Corporation (SIPC) and the Financial Regulatory Authority (FINRA). A few brokers that you might consider are TradeStation Securities, Interactive Brokers, and TradeKing (see Resources).
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Find a stock or ETF (exchange traded fund) that has an option to trade. You can purchase options contracts on oil related stocks such as Chevron (CVX), and Halliburton (HAL), or you can purchase contracts on an ETF (this is similar to a mutual fund except it trades like a stock). These include United States Oil (USO), Power Shares DB fund (DBO) and the Energy Select Sector fund (XLE).
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Select the time value of an options contract. Options contract have two components, "time value" and "intrinsic value." In general, it is best to buy options with at least six months until expiration date. This is because the closer they get to expiration, the quicker they lose value.
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Select the strike price (the price where the options contract can be exercised) of the options contract. The intrinsic value is where the options contract is in relationship to the price of the stock. For example, if the oil stock is priced at $75, you can buy an options contract that has a strike price at $75 (this is an "at the money contract"), a contract at $60 (this is called "in the money"), and one for $90 (this is called "out of the money"). Only the "in the money" contract has any intrinsic value. It is best to get a contract that is slightly in the money or at the money in general, as this usually mirrors the performance of the stock (in terms of how much value it gains).
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Make sure that the stock is above the 200-day moving average (DMA). This is an indicator that many professional traders look at to tell whether a stock is bullish or bearish. If it is above the 200 DMA, then you can buy a call option contract on the stock. Call options go up in value when the stock goes up.
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Make sure the oil stock is in an up trend. You can determine this by drawing trend lines across the tops and bottoms of the price charts of the oil stocks that you are looking at. Use a weekly chart and look at the last three months worth of data. This will create a channel. If it is trending up, you will want to be a buyer near the bottom of the channel. If it is going sideways or trending down, you will want to wait until the trend changes.
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References
Resources
- Photo Credit OIL image by brelsbil from Fotolia.com
