Option Trading Fundamentals
Option Trading Fundamentals
How Options Can Help Minimize Short Risk
There are so many available options and ways to trade them that you might not know where to begin. Getting started is easier than you think, once you determine your goals.
Know What You Want
Before you begin trading options, have a clear idea of what you hope to accomplish. Options can play a variety of roles in different portfolios. Picking a goal narrows the field of appropriate strategies. Perhaps you want more income from the stocks you own. Maybe you hope to protect the value of your portfolio from a market downturn. No one objective is better than another, just as no one options strategy is better than another. It depends on your goals.
And How to Get It
Once youíve decided on your objective, examine options strategies that can help reach that goal. For example, if you want more income from the stocks you own, investigate strategies such as writing covered calls. If youíre trying to protect your stocks from a market downturn, you might think about purchasing puts or options on an index that tracks the type of stocks in your portfolio.
Watch the Margins
You canít purchase options on margin, as you can with stocks. Brokerage firms require that certain options transactions, such as writing uncovered calls, take place in a margin account. That means if you write a call, youíll have to keep a balance in your account to cover the risk associated with the current obligation of the short position. This margin requirement for uncovered writers can vary but it is typically set at a minimum of 25% of the underlying security minus the amount the option is out-of-the-money, but it is never less than 15% of the security value.
If the value of the assets in your margin account drops below the required maintenance level, your brokerage firm will make a margin call, or notify you that you need to add capital in order to meet the minimum requirements. If you donít take appropriate action, your brokerage firm can liquidate positions in your account without your consent. Since options can change in value over a short period, monitor your account to prevent being issued a margin call.
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