A Complete Guide to Options Trading

When you play the odds right, options trading can lead to a large payout. Like other types of stock trading, options trading can seem a bit complicated at first. Let’s go over the basics of this advanced type of trading.

What Are Options?

Options are contracts that give you the right to buy or sell stocks by a certain date without having the obligation to do so. They are beneficial because you can buy or sell at a specific price during this duration. Like exchange-traded funds (ETFs), mutual funds, bonds, and stocks, options are a type of asset class. Although they come with a risk, you can benefit if you predict the future direction of a stock.

The Three Elements of an Options Trade

When deciding to trade an option, consider these three elements:

  • Risk: Is the defined risk something you could live with? Make sure you can afford to lose all the money you invest in this contract.
  • High probability: You want an option that is likely to work in your favor.
  • Time decay: It’s important to understand how much value your option will gain or lose over time.

Types of Options Trades

There are two variants of options:

  • Put options contract: With this option, you have the right to sell a stock. Put options are beneficial when you expect the price of a stock to fall.
  • Call options contract: This option gives you the right to buy a stock. Call options are better when you expect the price of a stock to rise.

How to Choose an Options Broker

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Image via Flickr by wocintechchat.com

An options broker is someone who can provide you with research, resources, support, and guidance as you make your trading decisions. Follow these tips when looking for an options broker:

  • Find a broker who offers free education. A quality broker will offer you access to online options trading courses, webinars, personal guidance, and face-to-face meetings.
  • Check out the platform. Make sure their software, website, or app is user-friendly. See if you can easily navigate the platform and find what you’re looking for.
  • Consider commissions prices. Although this is an important factor, don’t necessarily consider high commission prices a deal-breaker. Consider what services you are getting before deciding if a high commission is outside of your budget. Look for different discounts a broker may offer.
  • Test their customer service. Prior to hiring a broker, make sure they have your preferred means of contact, whether that be live phone support, email, live chat, or a help page. Reach out to them with a few questions to see if you get the support you need.

Terminology You Need to Know 

Seasoned options traders use Greek letters, also referred to as “the Greeks,” to assess the risk of their contracts. Learn what each of these risk measurements is looking at:

  • Delta: The impact of an underlying asset’s change of price.
  • Gamma: Delta’s rate of change.
  • Theta: The impact of time decay in relation to the expiration date of an option.
  • Vega: The impact of a change in volatility.

Now that you know the basics of options trading, you can begin to look for a trusted broker. Make sure to do plenty of research to ensure you are in good hands.

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