Class 5: Options Trading - Part 2 Trading Options Like Stock. Review Basic Options. Right to buy certain price

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Godfrey Woods
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1 Today s Class Review basic options Trading options like stock Class 5: Options Trading - Part 2 Trading Options Like Stock How options prices move with stock Choosing the right options Stock Option Basics Review Basic Options Buy Option = Right Sell Option = Obligation Option can be played 4 ways Call Put Buy Right to buy certain price Right to sell certain price Sell Obligation to sell certain price Obligation to buy certain price PAGE 1

2 Options for Stock Holders Buy Option = Right Sell Option = Obligation Options for Stock Holders Calls Write (Sell) Covered Calls Assume Obligation to Sell LIke renting your stock Puts money in your pocket Puts Buy Protective Puts Receive the RIGHT to Sell Like insuring your stock Takes money from your pocket PAGE 2

3 ll. Trading Options Like Stock Options for Traders Option Values... As the Stock Goes Up... Option Price... Call Option (right to buy at a lower price) Put Option (right to sell at a higher price) Goes UP Goes DOWN Option Values... As the Stock Goes Down... Option Price... Call Option (right to buy at a lower price) Put Option (right to sell at a higher price) Goes DOWN Goes UP PAGE 3

4 Options for Traders Buy Calls Buy Puts Bullish Trade Bearish Trade Price goes up as stock goes UP Price goes up as stock goes DOWN Can trade in place of Buying Stock Can trade in place of Selling Short Can control stock without buying it Can control stock without shorting it Limited downside/unlimited upside Limited downside/unlimited upside Instead of Buy Stock Long ===> Buy Calls Sell Stock Short ===> Buy Puts PAGE 4

5 Foundations of Stocks and Options Class 5: Option Trading - Part 2 The Four Basic Strategies Four Basic Strategies Bullish Bearish 1. Buy Stock Long 2. Sell Stock Stock Short 3. Buy Calls 4. Buy Puts PAGE 5

6 Rewards of Buying Options PAGE 6

7 Options for Traders When you buy an option, as the stock moves in the direction of the trade, the price value of the option increases exponentially, eventually moving dollar for dollar. Risks of Buying Options Value of option decrease with time You never own anything You could lose all your money (if you don t learn what you are doing) Options for Traders Option prices go up and down with stock prices Traders can profit on these moves PAGE 7

8 Foundations of Stocks and Options Class 5: Option Trading - Part 2 Definition: When buying an option the buyer has the RIGHT but not the obligation, to buy or sell a specific stock at a specific price on or before a specific date Options Buying Defined: Right (no obligation) Control of the stock Buy or sell Call = Right to buy Put = Right to sell Specific Stock (The underlying security) Specific Price (The Strike Price ) By a Specific Date (Expiration Date) Types of Options Option can be played 4 ways Call Put Buy Right to buy certain price Right to sell certain price Sell Obligation to sell certain price Obligation to buy certain price PAGE 8

9 Options Chain PAGE 9

10 Foundations of Stocks and Options Class 5: Option Trading - Part 2 Standard Strike Prices: Stock Price Increments Strike Prices $0-$5 None None $5-$25 $2.50 $25-$200 $5.00 $5, 7.50, 10, 12.50, 15, 17.50, 20, 22.50, 25, 22.50, 25 $25, 30, 35, 40, 45, 50, 55, 60, 65, 70, 75...$200 $200+ $10.00 $200, 210, 220, 230. Standard Strike Prices PAGE 10

11 Foundations of Stocks and Options Class 5: Option Trading - Part 2 What s wrong with this? Strike Prices - Exceptions Strike Prices move in these increments as a rule. However, stock splits and other factors can create odd strike prices ETFs - Almost always have $1 strike prices Some very popular stocks trade in $1 strike prices Many expensive stocks have $5 strike prices Some very heavily traded have.50 strike prices (SLV) PAGE 11

12 Expiration Date: The day on which the option expires 12 Months Expires on 3rd Friday of Expiration Month (technically option expires at 11:59 AM on 3rd Saturday of the month, but you can not trade on Saturday so Friday is your last chance to trade making it the functional expiration date) LEAPS (Long-term Equity AnticiPation Security) (Option with more than 9 months to expiration) PAGE 12

13 Foundations of Stocks and Options Class 5: Option Trading - Part 2 Option Contracts: Options trade in Contracts 1 contract holds 100 shares of stock 10 contracts would = 1000 shares HOWEVER - Contracts are priced in shares Option Contracts XYZ Option Price = $1.50/share 1Contract = $1.50x100 = Contracts = $1.50x1000 = 1500 How much would it cost to purchase 10 contracts of WYNN Sept 13 $140 call options? $8.55 x 100 = $855 (1 Contract) $855 x 10 = $8,550 (10 Contracts) PAGE 13

14 Option Contracts - Exceptions: New - Mini Options: Only on a few very expensive stocks (AAPL) Trade 10 shares/contract Option Contracts XYZ Mini-Option Price = $1.50/share 1 Mini Contract = $1.50x10 = $15 10 Mini Contracts = $1.50x100 = $150 How much would it cost to purchase 10 contracts of AAPL June 13 $455 call options? $14.90 x 10 = $149 (1 Contract) $149 x 10 = $1,490 (10 Contracts) PAGE 14

15 Foundations of Stocks and Options Class 5: Option Trading - Part 2 Option Nomenclature Two Values Add Up to Determine Option Price Intrinsic Value Time Value These two together equal the Option Price Intrinsic Value The built-in value of an option lll. Option Pricing The price difference in the price of a stock and the strike price Intrinsic value does not disappear with time PAGE 15

16 XYZ Stock is $160/share Option Strike Price = $150/share Option has $10/ Intrinsic Value Time Value The premium value of an option The affected by time, volatility, liquidity etc. Time value disappear with time Misunderstanding Time is how most people lose money with options The difference in the Intrinsic Value of an option and the actual price is the time value The difference in the intrinsic value of an option and the actual price is the time value This means $3 will slowly disappear with time, but $10 will remain Imagine a chocolate-covered peanut sitting on a warm burner. The longer it is on the burner, the more of the chocolate will melt away, but the nut will remain even if all the chocolate melts away PAGE 16

17 Chocolate = Time Value (Can melt away) Nut = Intrinsic Value (Will not melt away) In the money - Stock has intrinsic value (strike is below the current price (call) or above the current price (put)) Out of the money - Stock has no intrinsic value (Strike is above the current price (call) or below the current price (put)) At the money - Strike is trading at the current price. PAGE 17

18 Foundations of Stocks and Options Class 5: Option Trading - Part 2 In The Money options have more intrinsic value and consequently will trade more like a stock. Time value will not affect them as much. Option Greeks: The Greeks are a set of formulas that are used to establish the Time Value of an option Delta Gamma Rho Theta Gamma (Implied Volatility) DELTA The relationship between the movement of a stock & the corresponding movement of the related option Ideal Delta is Never intentionally trade a delta lower than.50 Delta Moves Delta Stock moves Option will move 0.5 $1.00 $ $1.00 $ $1.00 $ $1.00 $1.00 PAGE 18

19 Foundations of Stocks and Options Class 5: Option Trading - Part 2 Strategy: Buy Calls & Buy Puts As stock price moves option price will increase Sell Option when your target price is hit or trend changes Calls = Bullish Puts = Bearish Buy 4 weeks MORE time than you need NEVER buy an option with less than 3 weeks time Ideally buy 1-2 strike prices In The Money Open Interest at least Rules for Buying Options PAGE 19

20 Action Steps Buy at least 1 call and put in your virtual accounts Try buying both in the money & out of the money Watch how they move with the stock Go to Next Class - Trading the Lanes Remember we are here to help you all throughout your journey in the Stock Market. Reach out anytime through at success@tradesmartu.com or Schedule a Call and one of our Student Coaches will contact you. PAGE 20

How To Understand The Greeks

How To Understand The Greeks ETF Trend Trading Option Basics Part Two The Greeks Option Basics Separate Sections 1. Option Basics 2. The Greeks 3. Pricing 4. Types of Option Trades The Greeks A simple perspective on the 5 Greeks 1.