Learn to Trade Options: 4 Tips for Making Money with Options

Breaking down how to profit from options with options guru, Bernie Schaeffer

Dec 27, 2020 at 11:15 AM
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    Options are a derivative financial instrument based on the value of underlying securities like stock. They are often a preferred investment due to their low-risk nature. For this reason, options are frequently used as a hedge against inflation and to limit risk exposure. They are also a great way to diversify and expand a portfolio. This guide is designed to help you learn to trade options in a step-by-step approach. To get an in-depth learning experience about options, subscribe to the best options newsletters by Schaeffef's, where you will receive regular advice and trading tips.

    Steps Involved In Trading Options

    Understanding the steps involved in the process should help you learn to trade options. Knowing how options are traded on the stock market not only makes the entire process easier but also aids the decision-making process when it comes to trading in favor of larger returns. There are four basic steps involved in the options trading process, and each one is discussed below in detail.

    Developing an Outlook

    Having an Outlook is an essential step before you begin trading. It involves the evaluation of the stock market to assess the current and future market environment. This includes conducting various technical and volatility analysis. It also involves studying economic cycles and news events relevant to the investment.

    Your outlook will formulate an expectation of how the market will function. This can include a bullish outlook that prices will rise or a bearish opinion that values will fall. Alternatively, a neutral stance indicates little expectation of variance in stock prices. This will determine how you trade.

    Besides, developing a price target can help you make higher returns. A price target is a prediction of the price to which the stock is likely to move to. As options come with an expiration date, an estimation of the amount of time it will take your stock to move to your price target can also help maximize profits.

    Planning For Options Trading

    As you learn to trade options, you will realise that trading requires planning. The planning stage involves making important decisions regarding your trade. Most importantly, this includes deciding on an options strategy and determining how much money to invest.

    There are hundreds of known standard options strategies available, and each is uniquely suited to a specific outlook. These strategies include credit spreads and debit spreads. Credit spreads involve net receipts of premiums and are rarely used by beginners. Conversely, debit spreads limit the risk involved, and work with lower investments. Choosing appropriate options strategies is essential as you learn to trade options.

    When deciding how much to invest, choose a strategy that limits possible loss within an affordable parameter. This approach can also prevent sudden losses on the investment.

    Trading Options

    Once you’ve decided on a strategy, you can begin trading options. This can involve a straight-forward Buy to Open or Sell to Open order.  A Buy to Open order establishes a new position, and Sell to Open opens an options trade by selling a short position. Experienced investors usually leg into a position by their estimation of the best timing.

    An important step to consider as you trade is setting up a stop-loss point. This sets a limit on the amount of money you can lose. This is unnecessary when you have only invested the total amount you can afford to lose. However, with higher investments, it is essential to prevent high losses.

    Closing Options Positions

    Being time-limited, options positions must be exited eventually. This can be done in one of four ways. Exercising involves buying or shorting an underlying stock if you decide to hold a long position. An assignment involves fulfilling an options contract by buying or selling the underlying security. You can also roll forward, by closing all expiring and instead of opening new ones. This is done when you wish to remain invested. Finally, closing simply involves Sell to Close long options or Buy to Close short options.

    You can use virtual trading platforms to learn to trade options. Such platforms can help you understand and practice paper trading before you start trading on the stock market. This aids the learning process and can help you fine-tune your trading strategy. Additionally, you can make trades without risking or losing money. As you learn to trade options, make sure to go through each of these steps to ensure returns. 

     

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