A Simple Guide To Making Money With Options.
Over the past few decades, we've seen many advances in how the stock market functions. Today, exchanges and brokerage houses exist almost entirely online, and everyone is competing for microseconds of speed.
As a quick example, let's say IBM is currently trading at $100 per share. Now, let's say an investor purchases one call option contract on IBM with a $100 strike price at a premium of $2.
The call option gives the buyer the right to purchase shares of IBM at $100 per share. In this scenario, the buyer could use the option to purchase those shares at $100, then immediately sell those same shares in the open market for $105. Because of this, the option will sell for $5 on the expiration date.
Using the same analysis as shown above, the call option will now be worth $1 (or $100 per contract). Since the investor spent $200 to purchase the option in the first place, he or she will show a net loss on this trade of $100.
If IBM ends up at or below $100 on the option's expiration date, then the contract will expire "out of the money," meaning it will now be worthless. In this scenario, the option buyer will lose 100% of his or her money (in this case, the full $200 that he or she spent for the contract).
Profit Amplifier Closed Trades.
Aside from a few road bumps, our path to success has been very profitable. In fact, my readers and I have made an average return of 14.5% on our trades so far, and our average holding period stands at just 40 days -- that's good for a 132% annualized return.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of NASDAQ, Inc.
Call Option Trading Example.
How To Make Money Trading Call Options.
Example of Call Options Trading:
Trading call options is so much more profitable than just trading stocks, and it's a lot easier than most people think, so let's look at a simple call option trading example.
Call Option Trading Example:
Suppose YHOO is at $40 and you think its price is going to go up to $50 in the next few weeks. One way to profit from this expectation is to buy 100 shares of YHOO stock at $40 and sell it in a few weeks when it goes to $50. This would cost $4,000 today and when you sold the 100 shares of stock in a few weeks you would receive $5,000 for a $1,000 profit and a 25% return.
While a 25% return is a fantastic return on any stock trade, keep reading and find out how trading call options on YHOO could give a 400% return on a similar investment!
How to Turn $4,000 into $20,000:
With call option trading, extraordinary returns are possible when you know for sure that a stock price will move a lot in a short period of time. (For an example, see the $100K Options Challenge)
Let's start by trading one call option contract for 100 shares of Yahoo! (YHOO) with a strike price of $40 which expires in two months.
To make things easy to understand, let's assume that this call option was priced at $2.00 per share, which would cost $200 per contract since each option contract covers 100 shares. So when you see the price of an option is $2.00, you need to think $200 per contract. Trading or buying one call option on YHOO now gives you the right, but not the obligation, to buy 100 shares of YHOO at $40 per share anytime between now and the 3rd Friday in the expiration month.
When YHOO goes to $50, our call option to buy YHOO at a strike price of $40 will be priced at least $10 or $1,000 per contract. Why $10 you ask? Because you have the right to buy the shares at $40 when everyone else in the world has to pay the market price of $50, so that right has to be worth $10! This option is said to be "in-the-money" $10 or it has an "intrinsic value" of $10.
Call Option Payoff Diagram.
So when trading the YHOO $40 call, we paid $200 for the contract and sold it at $1,000 for a $800 profit on a $200 investment--that's a 400% return.
In the example of buying the 100 shares of YHOO we had $4,000 to spend, so what would have happened if we spent that $4,000 on buying more than one YHOO call option instead of buying the 100 shares of YHOO stock? We could have bought 20 contracts ($4,000/$200=20 call option contracts) and we would have sold them for $20,000 for a $16,000 profit.
Call Options Trading Tip: In the U. S., most equity and index option contracts expire on the 3rd Friday of the month, but this is starting to change as the exchanges are allowing options that expire every week for the most popular stocks and indices.
Call Options Trading Tip: Also, note that in the U. S. most call options are known as American Style options . This means that you can exercise them at any time prior to the expiration date. In contrast, European style call options only allow you to exercise the call option on the expiration date!
Call and Put Option Trading Tip: Finally, note from the graph below that the main advantage that call options have over put options is that the profit potential is unlimited! If the stock goes up to $1,000 per share then these YHOO $40 call options would be in the money $960! This contrasts to a put option in the most that a stock price can go down is to $0. So the most that a put option can ever be in the money is the value of the strike price.
What happens to the call options if YHOO doesn't go up to $50 and only goes to $45?
If the price of YHOO rises above $40 by the expiration date, to say $45, then your call options are still "in-the-money" by $5 and you can exercise your option and buy 100 shares of YHOO at $40 and immediately sell them at the market price of $45 for a $3 profit per share. Of course, you don't have to sell it immediately-if you want to own the shares of YHOO then you don't have to sell them. Since all option contracts cover 100 shares, your real profit on that one call option contract is actually $300 ($5 x 100 shares - $200 cost). Still not too shabby, eh?
What happens to the call options if YHOO doesn't go up to $50 and just stays around $40?
Now if YHOO stays basically the same and hovers around $40 for the next few weeks, then the option will be "at-the-money" and will eventually expire worthless. If YHOO stays at $40 then the $40 call option is worthless because no one would pay any money for the option if you could just buy the YHOO stock at $40 in the open market.
In this instance, you would have lost only the $200 that you paid for the one option.
What happens to the call options if YHOO doesn't go up to $50 and falls to $35?
Now on the other hand, if the market price of YHOO is $35, then you have no reason to exercise your call option and buy 100 shares at $40 share for an immediate $5 loss per share. That's where your call option comes in handy since you do not have the obligation to buy these shares at that price - you simply do nothing, and let the option expire worthless. When this happens, your options are considered "out-of-the-money" and you have lost the $200 that you paid for your call option.
Important Tip - Notice that you no matter how far the price of the stock falls, you can never lose more than the cost of your initial investment. That is why the line in the call option payoff diagram above is flat if the closing price is at or below the strike price.
Also note that call options that are set to expire in 1 year or more in the future are called LEAPs and can be a more cost effective way to investing in your favorite stocks.
Always remember that in order for you to buy this YHOO October 40 call option, there has to be someone that is willing to sell you that call option. People buy stocks and call options believing their market price will increase, while sellers believe (just as strongly) that the price will decline. One of you will be right and the other will be wrong. You can be either a buyer or seller of call options. The seller has received a "premium" in the form of the initial option cost the buyer paid ($2 per share or $200 per contract in our example), earning some compensation for selling you the right to "call" the stock away from him if the stock price closes above the strike price. We will return to this topic in a bit.
The second thing you must remember is that a "call option" gives you the right to buy a stock at a certain price by a certain date; and a "put option" gives you the right to sell a stock at a certain price by a certain date. You can remember the difference easily by thinking a "call option" allows you to call the stock away from someone, and a "put option" allows you to put the stock (sell it) to someone.
Here are the top 10 option concepts you should understand before making your first real trade:
Options Resources and Links.
Options trade on the Chicago Board of Options Exchange and the prices are reported by the Option Pricing Reporting Authority (OPRA):
How a trader made 1,300% of their money in minutes.
Options traders have been turning deal chatter into quick profits.
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Thursday afternoon, trading in animal health company Zoetis was halted on a Wall Street Journal report that the company was approached by Canada-based drugmaker Valeant Pharmaceuticals for a potential takeover. When the stock reopened, shares soared more than 11 percent into the close. And that meant a cool win for one smart trader.
"Options volume ran hot right at the end of the trading day, with call volume running two times that of put volume," options expert Dan Nathan said Thursday on CNBC's "Fast Money."
And seemingly right as the news hit, one trader purchased 300 of the June 26 weekly 50-strike calls in Zoetis for 34 cents. Since buying a call option allows one the right to purchase a stock at a set price for a given time, this is a bullish bet that the stock would be above $50.34 by Friday.
"Right after the stock spiked those calls appreciated dramatically," added Nathan, founder of RiskReversal. "They were purchased for 34 cents, which is about $10,000 in premium for those 300 calls," and after the halt they were offered at $4.80 or worth about $144,000. That $144,000 represents more than $130,000 of pure profits, meaning the trader made 1,300 percent in just a matter of minutes.
This isn't the first time options traders have made money on takeover talks. Just last week one trader cleaned house on reports of a Martha Stewart deal. In that case, a trader was able to make more than $200,000 in just a matter of minutes.
But Nathan warns that this is not necessarily the smartest strategy for investors. "It seems a bit like a frenzy here. I don't think you want to go out and buy calls for every stock you hear is going to be taken over or rumors floated."
To note, CNBC's David Faber is reporting Friday that Valeant is not going to pursue a deal for Zoetis.
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How Do Binary Options Brokers Make Money?
Over recent years, binary options trading has become an accepted form of investment in the financial markets. Unlike the forex market or stock market where the brokers charge spreads or commissions, binary options brokers don’t work in this way. This often raises the question of “How do Binary Option brokers make money?” It’s obvious that binary options brokers are making money, otherwise they would have stopped functioning a long time ago. The question is how and the answer is seemingly shrouded in mystery.
Binary options brokers actually make money through a variety of ways. However, the precise method is dependent on the business model of the broker. One way of making money is through the pricing of the binary options. Another way is through the trading activities of traders.
Pricing Of the Binary Options.
Binary options broker normally obtain their pricing structures from their liquidity providers. What many traders are unaware is the fact that the pricing of the binary options that they are trading in is marked up slightly from those in the market. When we want to trade in binary options, we check out the prices of the asset displayed on the trading platform together with the expected payout in dollars and cents. If we pay closer attention, the expected payout is not calculated based on a true percentage payout. A certain portion of the payout is actually retained by the broker and this is the commission that the binary options broker is earning.
Another way for binary options broker to make money is through the trading activities of their clients. Let us suppose that Acme Binary Options broker has 500 clients. Let us further assume that 250 of these clients wish to bet that the GBP/USD will go up within the hour and they bet $100 each. The other 250 clients want to bet $100 each that the GBP/USD will fall within the hour. This mean the total money pooled in the market is $50,000. On the trading Platform, the GBP/USD displayed a paid out ratio of 80% if the trade is in the money.
After an hour, we find that the GBP/USD actually ended up. So the 250 of traders that bet for the GBP/USD to rise ended up in the money with $180 each. For those traders who ended out of the money, their return is zero. Hence, the total payout comes to $45,000. This mean there is a balance of $5000 in the market pool which the broker can walk away with. Our example is just based on one trade of the GBP/USD in one hour. Just imagine that there are 10 to 20 such trades every 24 hours, this mean the broker is easily earning $50,000 to $100,000 per day! If we take that amount and multiply it 5 times a week for four weeks, we ended up with a figure ranging from $1 million to 2 million in a month!
Of course our example above also presupposed that there is a balance between both sides of the market which is unrealistic in the real world. Nevertheless, the example is able to illustrate to us very clearly how binary options brokers makes their money.
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