The World Of Options

Hope you are doing well.

We have seen a number of stocks continue to head in the downward direction this week. As much as I don’t want to say it, I like seeing the market flatten out for a bit.

Valuations were sky high so seeing a return to Earth for some of these stocks is a good sign to me.

What moves have I made? Well, nothing.

I have been standing on the sidelines watching everything play out. Next week is April 1st so that means adding to my main ETF positions!

In the meantime I have been exploring the options strategy of selling covered calls and cash secured puts. Que this weeks topic.

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“It is not hard to make money in the market. What is hard to avoid is the alluring temptation to throw your money away on short, get-rich-quick speculative binges.” - Burton G. Malkiel

Should I get into option trading?

The question most investors have asked themselves at least some point in their market career.

Less capital, greater returns, ability to profit whether a stock goes up or down, what is not to love?

In case you can’t tell this is exactly what I told myself when I got into options. I think I might have set the record for the fastest loss of $250 for an 18 year old.

In this email I’m going to cover a brief introduction to options and the lessons I learned the hard way.

Get To Know An Option

I’m not going to specifically explain what options are since there are hundreds of short videos explaining just that. In fact I’ll link to one here for those who need a quick introduction.

If there is one thing you remember from this email let it be that not all options are created equal. Options encompass a wide variety of different strategies each with their own risk and knowledge requirement.

Basic Options

This is the first type of option newbies in the market usually deal with.

It was for me.

These type of options include your normal call and put option contracts. When buying one of these you are betting on the stock price increasing or decreasing to a certain level in a determined time period.

At first it sounds simple, but then you learn everything that affects an option. Expiration date, time decay, bid ask spreads, open interest, and implied volatility just to name a few.

While I quickly learned this strategy is VERY RISKY on a short term basis, I will utilize these options over the long term if I see an opportunity.

Remember when oil went “negative?”

During this I decided to take a small bet on a few oil companies that were getting absolutely hammered by this unfortunate turn of events. One of those was Marathon (MRO), which I bought a three month out call option on.

In a matter of days I had booked a 200% profit.

The trick with these is to not get greedy, play long term moves, and only use them to either hedge a position or speculate.

Spreads

I’m no expert on spreads, but I do know those who have used them successfully.

To trade a spread one normally sells and option while buying an option with the same date and different strike price.

Get it, spread in price, haha.

Spreads can be set up to profit in bull, bear, or even flat markets which is a cool thing about them.

Since there is so many types of spreads I am going to include a link to an article here where you can read more about the different variations.

With spreads your upside is maxed, but one has much more control over setting the trade up for profitability.

So while you won’t pull a 1000% gain, you likely won’t lose 100% in a matter of hours.

Covered Calls and Cash Secured Puts

This is the newest of the options strategies that I have been looking into.

If you have been here a while, Business Famous, otherwise known as Chris, wrote a guest article for us describing covered call ETFs.

This was a great post and really described the different funds and how they generate amazing dividend yields for the share holders.

You can read that here.

With covered calls and cash secured puts you are the person selling to all the greedy 18 year old traders.

To write covered calls on a stock you need to own 100 shares. If you do, this is a great way to generate extra cashflow from a stock that doesn’t have dividends, or even boost the return of a dividend stock.

Cash secured puts are the opposite.

In this strategy you need to have the cash available to buy 100 shares. This approach is best used when there is a stock you would like to own, but want to buy it at a lower price. You can write CSP’s on it and collect premiums until it reaches that level, where your contract will then execute and purchase 100 shares.

I’m potentially going to be starting a separate account just for this strategy so let me know if that is something you would like to see.

Conclusion

Options are in a whole different ball park compared to stocks, and an entire universe away from ETFs.

If you are new to the markets I definitely do not recommend jumping straight into options. For the more experienced investors who are potentially looking at expanding their stock market arsenal consider these strategies.

Just make sure to educate yourself plenty before hand, or you will end up beating my record of how fast someone can lose $250.

If you want to learn more about cash secured puts Business Famous has a short guide covering the topic. It’s an easy way for investors to generate some extra cash flow.

It is one of main resources I used in my research.

In honor of the Ever Green being stuck in the Suez Canal we have to include multiple memes this week.

Thanks for reading, if you have any questions, comments, suggestions, etc. about the email send me a DM on twitter. See you next week!