An Options Trading Advantage

Straddling the fence when trading stock options

Those of you who have never traded options, or are just getting into them may find this interesting.  It illustrates how knowing and applying the right technique can be profitable.

And it is a true story.

But first, a brief bit of background.

I placed my first options trade years ago and made a quick and handsome profit of 300% within six weeks.  You may gather from that statement that I was hooked and never looked back.

That’s because it illustrates one of the unique aspects of options trading versus stocks.  And that is that prices can move far and fast in a short period of time.  Just think about it.  It is virtually unheard of for a stock to make this type of move in less than years, some maybe decades.

And options allow you to put less capital at risk because they are leveraged.  So it is not unusual to invest half, or even much less than half, than you normally would to buy the stocks outright.

So clearly options can offer some big advantages over stocks.  And the general public is starting to catch on to this idea.  But sadly, many are just grabbing on to the most elementary ideas before putting on a trade.

And they lose.

Because without some better understanding that gives them an advantage, options can create disadvantages as well.  As a former stockbroker liscensed with the New York Stock Exchange, I saw this happen to traders more often than I care to remember.

Which is too bad, really.  Because the missing pieces in their knowledge are actually pretty simple to understand, if explained well.

I call these missing pieces the “trading advantage.”  It’s based on a few key concepts and techniques beyond just learning what call options are and rushing out and buying them.  And I use the trading advantage all of the time.

Let me give you a specific example of one of my trading advantages.  I just recently closed out an options trade on an oil ETF (Exchange Traded Fund that trades just like stocks) that made 49% in eight weeks.

Put another way, I was trading on the price of oil.

You know, oil, that black stuff that can change price wildly on the world markets due to little things like, oh, I don’t know, maybe worries about who will bomb Iran to shut their nuclear enrichment facilities down, or Iran threatening to close the Straits of Hormuz, or worries that China’s economy is slowing down, or dropping demand due to the crisis in Europe.

You know, little stuff like that.

That’s all pretty volatile, right?  So putting on an options trade involving oil really sounds like gambling, doesn’t it?

And you’re right.  The way most options traders would have played this, it would be.

But what if I told you I put on a trade that, for a limited period of time, would either win, or not lose (by not lose I mean come pretty close to breaking even).  That’s much different than the normal trade which will either win, lose or break even, isn’t it?

So how did I do that?

I put on a trade called a straddle.  A straddle is where I bet on both sides of the fence, i.e. straddle the fence, at the same time.  I buy calls and puts.  I bet the price will go up and I also bet the price will go down.

Sounds crazy, doesn’t it?

But if you do it right, and there is a specific way to do it, it can often put you in a position of winning or breaking close to even.  Which is better than losing.

And a straddle was the perfect way to play this trade.  Because a number of oil experts were predicting the price of oil was about to make a big move – up.

I’ll say this — they got the big move part of the prediction right.  But, small problem here, they got the direction wrong.  The price of oil made a big move – down.

Which means had I done what most traders did, and gone out and bought a bunch of call options, betting the price would go up, I would have lost money.  As it is, my put options, betting the price would go down, made much more money than my call options lost, which were betting the price would go up.

See what I mean by a trading advantage?

By going just a few steps further in your understanding of options, you can give yourself an advantage too.  Which is important because trading options is a zero sum game.  For every winner there is a loser.

And having the trading advantage greatly increases your odds of ending on the winning side of the game.

To your health and prosperity – John

P.S. You can learn more trading advantages in John’s book Stock Options For Beginners to be released in the near future.

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