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Options trading is a versatile investment tool. Whether you are seeking to hedge an investment or are speculating, options provide several investment alternatives. Options offer a unique risk/reward structure that offers an investor the opportunity to combine options with other option contracts and/or other financial instruments to seek profits or protection. Many investors consider options too complex and difficult to understand. While it is true that there are complex options strategies, the concept underlying options trading is quite simple. So what are options and why would I say the concept of option is simple? An option is a contract that gives you the right, but not the obligation, to buy (or sell) an asset at a specified price (exercise price) from (or to) the option seller within a specified time period. When you enter into an options contract for the right to buy an asset, you pay a premium for this right. Buyers and sellers in the exchange markets set option prices based on the dynamics of a competitive auction market. The purchaser hopes that the asset price will go up by an amount greater than the cost of the option. If the asset holds steady or moves in the opposite direction, the price paid for the option is lost. Unlike several investments where the risks may have no boundaries, options provide a defined risk to buyers. An option buyer has nothing more at risk than the price of the option. Because the right to buy or sell the underlying security at a specific price expires on a given date, the option will expire worthless (loss of premium) if the option is not exercised. Equity option contracts usually represent 100 shares of the underlying stock and offer several advantages to the option holder.
When you own an option, you own the right to purchase the underlying asset by the expiration date. Therefore, option holders do not enjoy the rights enjoyed by stockholders--e.g., voting rights, dividends, etc. Fortunately, standardized option contracts provide orderly, efficient, and liquid option markets. You may have heard of several of the organizations that make options trading possible such as Options Clearing Corporation , American Stock Exchange and Chicago Board Options Exchange . You can buy or sell options on a variety of underlying assets. Options are available on commodities such as coffee, orange juice and pork bellies as well as on major market indices such as the S&P 500, industry specific indices such as pharmaceuticals and specific equities like Microsoft. With the development of technology and the Internet, the ability for an investor to access online options trading information quickly and to execute transactions cheaply and rapidly online has added to dramatic growth of the options market. Investors can typically participate in online options trading through most online stock brokerages . Additional options information can be found at:
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Options Trading
