What Is An Option?

September 2, 2006 | By | 1 Reply More

An option is a contract giving the buyer the right, but not the obligation, to buy or sell the underlying asset (a stock or index) at a specific price on or before a certain date (listed options are all for 100 shares of the particular underlying asset.)

An option is a security, just like a stock or bond, and constitutes a binding contract with strictly defined terms and properties.

How To Trade in Options

Options are actively traded and are bought and sold in a listed market in the same way as stocks. Each options contract consists of 100 shares of the underlying asset.

Options are known as derivatives as they derive their value from the underlying asset. Unlike stock owners, the owners of options have no dividend or voting rights or a share in the underlying asset.

All options have expiration dates at which time, if the option has not been exercised, it becomes worthless.There are only two kinds of options

  • A call option gives the buyer the right to buy the underlying asset at a specified price within a given time period.
  • A put option gives the buyer the right to sell the underlying asset at a specified price within a given time period.

The option premium is the trading price of a single call or put contract paid to the writer (issuer) of the contract. The strike price is the stated price for which the underlying security can be purchased (a call) or sold (a put) by the option holder upon exercise of the option contract

It is important to be aware that options are time sensitive

As the expiration date draws closer so the option premium will be constantly adjusted taking into account the price of the underlying security, the option strike price and time remaining. There are differences between the worldwide option trading markets.

We trade options through a United States specialist broker as commissions are lower, there are fewer trading restrictions, executions are quicker, the trading platforms are easy to use and navigate and make available a wealth of comprehensive information.

Options are an extremely versatile tradable

They can be used as insurance against a market downturn effecting a portfolio, make it easy to take a short position on an underlying stock or index (try going short on a stock with a UK broker and see how far you will get!) or by using a mix of put and call options with different strike prices and/or expiry dates limit or enhance a trade.

Go on line to The Chicago Board Option Exchange (http://www.cboe.com) to learn all you will ever need to about Options. Option trading in the U.S is open to all.

The Pros and Cons of Trading Options in the Precious Metals Markets

  • Option trading is far less capital intensive than buying stocks and shares outright.
  • Money at risk can be determined at the start.

In extreme circumstances an investment or speculation in the shares of a company could result in the outright loss of every cent, whereas an option can give you the same exposure to the upside profit that you expect to make from the rising share price of that share.

If the worst happened you would only lose the option premium you have paid and that will be very much less than the cost of buying the shares outright and being wiped out. The main factor to consider is the time element so if your stock pick doesn’t perform within the period you expected your option will expire worthless and you may be out of the market when the rise occurs. Fortunately it is possible to purchase long dated options, called leaps, with expiry dates extended for up to two years.

Using options as an investment vehicle to enter the precious metals market allows the available capital to be spread over a much wider range of companies and that can lessen the odds of a wipe out and increase the odds of having winners.

More plays for the buck!

Words of warning – more options expire worthless than profitable. If you pick a winner the percentage gain is much greater than buying outright.

Option availability in the precious metals market will be confined to the leading miners, refiners, relevant indices, metal futures and top companies in the sector. Smaller and probably more vulnerable mining companies will not have options as an alternative to buying stock.

  • Buying options is more speculative and riskier than buying stock outright.
  • Using options to go short is simple.
  • Options allow a greater spread of available capital.
  • Combinations of options can be utilized for many scenarios making options the most versatile of all trading vehicles and the most speculative.
  • The percentage rewards for a winning trade are much greater than any other form of investment.
  • Learn to utilize Options in depth from the Chicago Board Options Exchange.

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