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Stock Options Trading

Stock Options Trading Ė Stocks vs. Stock Options

Stock options trading is a great way to invest money, but it is important to remember options are different from stocks. Stock options are a privilege sold by one party to another giving the buyer the right (not the obligation) to buy or sell a stock at an agreed upon price within a specific time frame. Options have very different characteristics than stocks and there is also a lot of terminology that a new options trader must become familiar with. Todayís article will discuss some of these differences as well as some of the terminology associated with stock options trading.

When stock options trading you must know that there are two types of options. These include a call, meaning to buy, and a put, meaning to sell. When buying puts, you have the right to sell a stock at the strike price any time before the expiration, but not the obligation to sell.  When buying calls, you have just the opposite right, which is the right to purchase a stock at the strike price any time before the option expires. The price of an option is called a premium and the buyer of an option cannot lose more than the initial premium paid for the contract, no matter what happens to the underlying security. When stock options trading, the seller of the option is the one who assumes the risk of having to deliver (call options) or take delivery (put options) of the shares of the stock.

Stock options trading is different from trading stock for a number of reasons, a few of which will be discussed in this article. The first to note is that options are merely contracts that give you the right to buy stock or sell stock at a specific price by an exact date, whereas stocks provide you with a small piece of ownership in a specific company. When dealing with options trading you also come across the term known as writing. Writing occurs during stock options trading when individuals sell options and effectively create a security that didnít previously exist. Writing is one of the main sources of options. When a trader writes a put, it means they may be obligated to buy shares at the strike price any time before expiration, and conversely when a trader writes a call, it means he or she is obligated to sell shares at the strike price any time before the expiration date. Stock options trading, unlike stock trading is also known as a zero-sum-game. What this means is that one participantís gain is a direct result of another participantís loss. The wealth is basically shifted from one to the other and the net change in total wealth among all participants is zero. Futures contracts are another example of a zero-sum-game.

While it makes sense to go from trading stocks to trading options keep in mind that there are different criteria for each. Stocks only deal with one thing and that is price. Stock options trading requires the trader to look at two additional criteria including volatility, and time. It is fair to state that if you trade stocks successfully that you can also trade options successfully, just be sure that you learn the new terminology and understand that there are different variables associated with stock options trading.

 

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