Trader Tip Guide. A quick reference to answer common questions about trade execution, options, and new accounts. OPTIONSXPRESS.COM

Transcription

1 Trader Tip Guide A quick reference to answer common questions about trade execution, options, and new accounts. OPTIONSXPRESS.COM

2 Table of Contents Execution 1. What is the difference between a market order and a limit order? What is a Walk Limit order and how does it work? What is the difference between a stop order and a stop limit order? How do I place a stop limit order? How can I place a stock order using a dollar amount instead of the usual share amount? What is the direct quote? Why do I need to select opening or closing when placing an option trade? What determines an option s price? Why are my calls losing money if the underlying is up significantly? Why is liquidity important? How can I measure liquidity with open interest, volume, and the bid ask spread? What is the difference between American and European style options? How do European options settle? Do I have to exercise my long options? Do I have to wait until expiration to close a short option? What happens if I decide to exercise my options? What happens when I am assigned? Can you explain how expiring in-the-money options are handled? How are commissions calculated? New Clients 1. How can I test out trading strategies without exposing myself to any real dollar risk? Why are my price quotes delayed? OPTIONSXPRESS.COM

3 Execution What is the difference between a market order and a limit order? Market Order A market order is an order that is to be executed as quickly as possible at the prevailing market price. Limit Order A limit order specifies a price limit at which the order must be executed. In other words, you are telling the broker to fill your order at this exact price or better. OPTIONSXPRESS.COM

4 Execution What is a Walk Limit order and how does it work? What it is: Walk Limit is an automated limit order that walks the client s order to save them time while attempting to get the best fill prices. A Walk Limit order goes to the market at the initial mid-point of the hypothetical National Best Bid or Offer (NBBO) 1, rests for 2 seconds, and then cancel/replaces the order a maximum of 11 times until the order is filled or rests as a limit order at the End Price (never outside of initial NBBO 1 ). Walk Limit works on all option order types and is customizable, allowing users to specify start/end prices, price increments, and time increments. How it works: 1. After selecting your desired option trade on the All-in-One trade ticket, use Walk Limit for Price. 2. Simply use the standard Walk Limit ticketing logic or choose to customize your Walk Limit order. 3. Your standard Walk Limit order will enter the market at the initial mid-point of the NBBO 1. After resting for 2 seconds, the order will cancel/replace walking the price up/down until your order is filled or rests as a limit order at the End Price. 4. To customize: After clicking Customize, simply enter values for Start Price, End Price, Price Increment, and Time Increment before clicking Preview. OPTIONSXPRESS.COM

5 Execution What is the difference between a stop order and a stop limit order? Stop Order A stop order otherwise referred to as a stop is an order that is not executed until the market reaches a given price, at which time the stop order becomes a market order. Some stop orders are referred to as stop-loss orders, which are used mostly for protecting gains or limiting losses. Some traders will put a stop order in at a predetermined level so that if the market moves against the trader s position it will automatically liquidate the position and limit further losses. Please be aware that there is no guarantee that a stop order will be executed at or near the stop price. Stop Limit Order Like a stop order, a stop limit order will be triggered by a move up or down to a particular price level. Once that level is reached, the order becomes a limit order, which must be executed at a specific price. In contrast, a regular stop order will be executed at the market price rather than at a specified price. With a stop limit order, two prices must be stipulated when the order is placed -- the stop price and the limit price. When the stop is reached, the order will be filled only if it is possible to do so without exceeding the limit price. If this isn t possible, the order becomes a working limit order. OPTIONSXPRESS.COM

6 Execution How do I place a stop limit order? Stop limit orders convert to limit orders when the price is triggered in the marketplace. Stop-Limit orders are elected when the National Best Bid (for sell orders) or National Best Offer (for buy orders) is equal to the stop or trigger price set by you. As an example, if the stop price is $1.75 and the limit price is $1.70, then the security must continue to trade at $1.75 after it has been elected in order for your order to be eligible for execution. The sell stop limit order may not be executed if the limit price is higher than the current market price once activated. In other words, if the stop limit price is $1.75 and the market price is $1.70 the order will not be executed unless the market trades $1.75 or higher. OPTIONSXPRESS.COM

7 Execution How can I place a stock order using a dollar amount instead of the usual share amount? The Stock Order Form does the math you simply enter an order by specifying the dollar amount of your desired trade. Our Stock Order Form calculates the number of whole shares closest to the dollar amount you specify based on the current market price. From the Trade/Stock screen enter the dollar amount in the Quantity field and click on the $ Amount radio button. OPTIONSXPRESS.COM

8 Execution What is the direct quote? Direct Quote is used for option spreads. These spread quotes come directly from exchange liquidity providers and represent quotes with a better price for the spread (package) than a combination of single leg quotes. They are non-binding indications of interest. OPTIONSXPRESS.COM

9 Execution Why do I need to select opening or closing when placing an option trade? orders are different than stock orders. When trading options, you ll have to specify whether you are: 1) buying or selling the option 2) opening a new position or closing an existing position. As a result, there are 4 types of orders: Buy to Open You are establishing a new option position (known as being long the option). With this action, you are buying a call or a put. Sell to Open Here, you are establishing a new option position by selling the option. This is known as shorting the option. An example of this is selling a covered call. Buy to Close You are closing out an existing short position by buying back an option that you previously sold. An example of this is if you want to buy back a covered call position in order to close your position. Sell to Close Here you are closing out an existing long position by selling an existing option that you have in your account. If you previously bought a call to open, and you want to liquidate it, you would need to sell the option to close out the position. OPTIONSXPRESS.COM

10 What determines an option s price? An option s price is made up of two components, intrinsic value and extrinsic value. If an option is in-the-money, it will have intrinsic value equal to the amount by which the option is in-themoney. So if you have a call with a strike, and the stock is trading at $26.16, the option will have $0.16 of intrinsic value. The strike calls are priced at $0.40, so the extrinsic value is: $0.40 $ 0.16 = $0.24. There are two major factors that affect an option s extrinsic value. The first is how much time is left in the option (also known as Time Value). The more time that is left until expiration, the greater the time value, all else being equal. Because of this feature, as time passes, options will lose value. This is known as time decay. The second factor is the implied volatility of the underlying stock. The more volatile a stock, the greater the implied volatility becomes and therefore, the greater the extrinsic value. Implied volatility increases just prior to major company announcements (such as earnings) because there is uncertainty around future price movement (direction and magnitude) of the underlying. OPTIONSXPRESS.COM

11 Why are my calls losing money if the underlying is up significantly? Due to earnings and other significant company announcements, option premiums may trade lower regardless of the stock price direction. Known as Volatility Crush, the premium decay comes out of the call option price faster than previously calculated. OPTIONSXPRESS.COM

12 Why is liquidity important? How can I measure liquidity with open interest, volume, and the bid ask spread? Liquidity is one of the most common concerns when trading options. Stocks typically trade hundreds of thousands or millions of shares per day. There are many buyers and sellers creating an efficient and liquid market. The option markets can be very different. Open Interest is the number of contracts, either long or short, traded on a particular option that have yet to be offset by a closing transaction. A closing transaction lowers open interest while an opening transaction increases open interest. There are a few pieces of data that an options trader will look at to gauge the liquidity of the options market. First, you can look at Open Interest (daily total of how many option contracts were opened based upon yesterday s close). This is only updated between trading sessions. Second, you can look at the current volume of that option contract. Volume is telling you how many contracts have traded hands so far that day. Volume is updated in real-time. OPTIONSXPRESS.COM

13 Lastly, a trader will look at the bid/ask spread of the contract. If the bid/ask spread is wide there are usually known issues affecting liquidity providers and market-makers. These issues can be: Little interest in the options and/or underlying lead to less trading and therefore less liquidity Implied Volatility (higher implied volatility tends to produce wider markets) Other unique situations (acquisition target or other rumors) If the bid/ask spread is narrow, it implies more accurate pricing. The bid/ask spread is generally the most effective way to gauge the liquidity of an option contract as Open Interest and Volume can be misleading. OPTIONSXPRESS.COM

14 What is the difference between American and European style options? that are American Style can be exercised (assigned) at any time before the expiration date. The deliverables are exchanged for the exercised options and the outstanding interest amount is reduced by the exercised total. that are European Style cannot be exercised (assigned) early and are only eligible for exercise (assignment) at expiration. OPTIONSXPRESS.COM

15 How do European options settle? Trading on these options ceases the day before settlement. Europeans options can have two different settlements; AM Settlement or PM Settlement. PM Settlement These European are settled based on the Last Price of the index at the 4pmEST close (example; SPX Weekly ). AM Settlement These European are settled on the morning of Friday Expiration; based on the average opening of all stocks (9:30amEST) that make up the underlying index. These total average opening prices are calculated to create a settlement price. Special Opening Quotation (SOQ) is the average opening price of any series calculated for settlement purposes. The settlement price is released later in the day on the Chicago Board of Exchange website (CBOE): aspx OPTIONSXPRESS.COM

16 Do I have to exercise my long options? When you own an American option, you can exercise that option at any time. You can also sell the contract back into the market which may be more economical, allowing you to capture any time value left in the contract. You are always able to attempt to sell your contracts in order to close out your trade, provided there is a market for the option. If you need help in evaluating your choices, please give us a call. OPTIONSXPRESS.COM

17 Do I have to wait until expiration to close a short option? When you are short an American option contract; it is possible for you to be assigned on that contract at any time. It does not necessarily have to happen at expiration. You can, however, buy back the short contract to close the position at any time. Once you do that, you are no longer at risk of assignment. OPTIONSXPRESS.COM

18 What happens if I decide to exercise my options? When you exercise your equity options, you will create a stock transaction in your account. If you exercise a call, you will purchase shares at the strike price of the option. If you exercise a put, you will sell shares at the strike price of the option. This will be booked into your account and will appear exactly like any other equity transaction. OPTIONSXPRESS.COM

19 What happens when I am assigned? If you are assigned on your short options, you will find out the next business day after we book the resulting transaction into your account. If you are assigned on calls, you ll see a resulting sale of stock at a price equal to the strike price of the option. If you are assigned on puts, you will buy stock at the price equal to the strike price of the option. The transactions will have an as of date of the previous day, since that is when the assignment technically took place. OPTIONSXPRESS.COM

20 Can you explain how expiring in-the-money options are handled? For clients who are long options (calls or puts), the firm assess the client s ability to maintain the position in the market that will occur as a result of the exercise. Your account value, free cash, and buying power are all considered. Specifically though: Accounts that have excess cash, or buying power for the exercise of the option will have the appropriate stock position entered into their account. Accounts that do not have the excess cash or buying power to hold the resulting stock position are reviewed during the final hours of trading on expiration day. Client accounts that cannot support the expected exercise positions are subject to the firm s close out process. Learn more here: process.pdf OPTIONSXPRESS.COM

21 How are commissions calculated? For options: $1.50 per option contract with a minimum of $ For example, if you trade between 1 and 9 contracts you will pay $14.95; 10 contracts cost $15.00, or $1.50 per contract. If you trade 20 contracts you will be charged $ Exercise/Assignment: If you exercise your long option, or if you are assigned on your short option, the exercise/ assignment will result in a stock transaction. This transaction will have a standard web-based stock commission of $8.95 per trade. Expiring : If an option expires worthless in your account, there is no commission for the expiration. For stocks: $8.95 flat fee for U.S. customers. Restrictions may apply to certain securities. Visit for more details. Please note that all pricing is as stated, for both option and non-option securities. There are no hidden fees: no monthly minimum fees, no inactivity charges, no volume requirements, and no service charges for postage and handling. OPTIONSXPRESS.COM

22 New Clients How can I test out trading strategies without exposing myself to any real dollar risk? Practice trading with a free $25,000 virtual trading account. Virtual Trade lets you use optionsxpress account screens, trading tools and resources to help you gain experience and test trading strategies without putting any money on the line. Trade stocks, options, futures and more in a risk free virtual trade account. OPTIONSXPRESS.COM

23 New Clients Why are my price quotes delayed? Newly created accounts will have access to real-time quotes for 30 days. After 30 days, unfunded accounts may have their quote updates set to delayed status. Non-professional, eligible accounts may restore real-time quotes by funding the account. OPTIONSXPRESS.COM

24 Disclosure ¹Hypothetical NBBO (National Best Bid/Offer) Spread Quote reflects the best quotes printed from participating exchanges on each leg of the spread combined. For a long leg, the NBBO single leg ask quote is used, while short leg quotes use the NBBO bid quote to combine for a synthetic NBBO combination trade quote. Please note that there are no spread markets in securities that are subject to benchmarks such as time and sales or NBBO and therefore the market cannot be held to a price. There are risks associated with trading spreads. Multi-leg option strategies may also be subject to multiple commissions. Profits may be eroded by the commission expended to open and close the positions and other risks apply. Please read Spread Risk Disclosure < Execution is not guaranteed with a Walk Limit order - particularly in a fast moving market which may result in no executed transaction. Walk Limit orders will only be accepted during the hours of 9:35 AM ET and 3:55 PM ET on official market trading days, and will not be applied to extended hours trading. There are risks associated with using advanced orders that you should understand. Learn more. Covered calls provide downside protection only to the extent of the premium received and limit upside potential to the strike price plus premium received. **Tech Trader orders are held internally and delivered on a not held, best efforts basis and are sent to the marketplace only when the criteria are met by the closing price of the designated Tech Trader time period. Tech Trader orders utilizing a stock in the criteria are only eligible during normal market hours and will not be applied to or triggered by extended hours stock trading. Please note that certain Tech Trader orders may not be eligible for execution at the time the Tech Trader factor is met, including but not limited to, stop orders entered above the market. You are responsible for reviewing and maintaining your Tech Trader and non-tech Trader orders in order to avoid conflict or duplication., Futures and Single Stock Futures involve substantial risk and are not suitable for all investors. Please read Characteristics and Risks of Standardized < character-risks.jsp> and Risk Disclosure Statement for Futures and < downloads/risks_futures_options.pdf> and Risk Disclosure Statement for Security Futures Contracts. < images.optionsxpress.com/static/pdf/security_futures_risks.pdf> prior to trading. Both disclosures are available by calling or * optionsxpress, Inc. makes no recommendations on investments and does not provide financial, tax or legal advice. Content and tools are provided for educational and informational purposes only. Online trading has inherent risks due to system response and access times may vary due to market conditions, system performance and other factors. An investor should understand these and additional risks before trading. and Futures involve substantial risk and are not suitable for all investors. Please read Characteristics and Risks of Standardized and Risk Disclosure Statement for Futures and prior to trading. Both disclosures are available by calling or Copyright 2014 optionsxpress, Inc. All rights reserved. Member SIPC < OPTIONSXPRESS.COM