In the final part of this option series, we are going to break down the top option trading questions new traders ask. We also will expose the myth that option trading is riskier than buying the stock.
(Check out the previous series by clicking here: Part 1: Intro to Options, Part 2: Intro to Call Options, Part 3: Intro to Put Options, and Part 4: Intro to Advanced Options)
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Question 1:
What is the difference between stock and options trading?
Most new traders are confused about the differences between stock trading and options trading.
The biggest difference is…
That when you buy a stock, you OWN a share of it and it does not have an expiration date, you can own it for as long as you would like. Stocks can also earn dividends.
When you buy an option contract, you have the RIGHT to own it at a certain price for a certain amount of time.
Question 2:
Why is option trading considered “risky”?
Honestly, it baffles me as to why option trading is even considered risky in the first place.
Society may consider option trading risky simply because most people do not understand how option trading works. And when people do not understand how something works, typically they get hurt.
They come to the stock market having heard all about option trading BUT they do not have the proper knowledge nor proper training. They dive in without knowing how they work and they get HURT.
Option trading has more moving pieces than a stock does.
You buy a stock, you hold it forever – there’s not a lot of brain power behind that strategy.
“Do I want to own Apple (AAPL)? Sure.” I buy Apple. I own Apple.
But when it comes to option trading, there are different components that you have to pay attention to.
You have to pay attention to strike prices and you have to pick an amount of time.
Those two elements alone add a level of complexity you do not have when you buy a stock.
Because of that – if you do not have the knowledge of how to properly trade options, you may pick the wrong strike price or not allow yourself enough time to be right when selecting the expiration date.
Question 3:
Why do most options expire worthless?
Most options expire worthless because most people do NOT read the stock chart, they don’t know how to determine where the stock is going and why, or what the correct time frame should be for their option.
Let’s use an example.
Let’s say I find an option for AAPL that expires in 7 days. Most people will come in and find the CHEAPEST option that they can.
The cheaper option is typically always the option with the LEAST amount of time.
Time is associated with risk.
In the first episode of this options series, we used an example of a house.
If you were selling your house and someone wanted the option to buy it, you may have them purchase a contract for $1,000 that says they can buy it within 30 days – otherwise that contract and the option to buy it expires.
If now though, someone comes to you and says they want the option to decide if they want to buy it or not for SIX MONTHS, you may want to get paid more.
That is a long time to hold a house for someone and the risk increases. The longer the time frame, I want to get paid MORE to take on the risk.
I may want a $10K non-refundable deposit now for that contract.
Bringing it back to the stock market, you need the proper training to understand how much time it takes to allow the stock chart to do what you think it is going to do.
A lot of people come in and just buy the 7-day contract for AAPL because it’s cheap!
But if you take my trainings, you would know I recommend being able to ANALYZE the chart and then DOUBLING the time frame for what you think the chart is going to do.
For example…
If the chart took 1 month to bounce off support and hit resistance, I would say you need to allow 2 months for it to repeat that pattern again.
But what most people do is think that the 2 month option looks too expensive, so they buy the 7-day or 2-week option.
It doesn’t allow enough time for the chart to do what you thought it would.
Because people buy the wrong option with the wrong time frame, it expires worthless.
That’s why it is so important to look at the chart, understand what it is going to do based on the pattern, and plan your option accordingly.
Question 4:
When trading options, do I have to wait until expiration – if my options are already profitable/in the red?
This is one of the BIG misconceptions – that you have to hold the option contract until the expiration date.
What if you had a 6-month option contract, but find you are already profitable after 1 month or 2? You still have to wait to get profit?
NO.
You can take whatever profit you have at any mark in time. You do NOT have to wait for the expiration date of the option contract.
If just means you have 6-months to do what you thought it would do. If it does it sooner – then great! Take the profit, and run.
On the flip side….
If you find yourself in a trade where it is doing the OPPOSITE than what you thought it would do…
You do not have to be locked into the trade and watch with terror as it continues to fall until the expiration date.
You can close it out EARLY and take a smaller loss.
Option trading is not as risky as you may think.
Question 5:
What is the minimum amount of money that I can use to start trading options?
You can trade options with as little as $500.
There is no minimum… but sometimes the brokers would like you to have minimum $500-$2,000 in your account.
But you can literally buy options with pennies on the dollar – so it is not like you need to be bank rollin’ before you start trading options.
Question 6:
What is the maximum amount of money I can lose trading options?
Here is the beauty of buying options…
You can never lose more than the cost you paid for the option.
If you are bullish and buy a call option, and the stock ends up going bearish, you can never lose more than you paid for the option.
If you paid $500 for the option – the MAXIMUM amount of money you can lose is $500.
AAPL is currently trading for about $200, at the time of this blog post.
If you were to buy 100 shares of AAPL – it’s $20,000.
You could lose all $20,000.
You could buy ONE option contract for $1,500 which CONTROLS 100 shares of AAPL.
And the most you could lose? $1,500.
Do companies go out of business? YES. There are companies where people lost every share they had inside the company.
Options carry the same, if not less, risk than owning the stock.
Holding KMART forever? Went to $0.
If you had the options on that, you would have lost less.
Question 7:
Does someone have to “lose” for someone to “win”?
People think that if you “won” the trade, that someone else had to “lose”.
That is not necessarily true in the stock market.
If I own 100 shares in AAPL for $200 a share ($20K), I could sell you the right to buy AAPL from me at $205.
You buy the option for $1,500.
I get $1,500. You get the right to buy it at $205 in the next 30 days. I own it at $200.
If AAPL goes to $225, you are going to call me up and say you want to buy them for cheaper.
I have to deliver my shares at $205.
I get to make the difference – 200 to 205, which is $5 PLUS I get to keep the $1,500 for the option contract you bought from me.
I put up $20K, but I just make $2K. That is a 10% return.
In my world, I WON.
In your world, you gave me $1,500 to buy the stock at $205. It is now trading at $225. You can buy the shares, turn around and sell them, and have $20 a share. You made $2,000 on the difference.
SO you made $500 – BUT if the stock goes up any higher, you would make even more profit.
In both situations, there is a WINNER and another WINNER.
You just have to both understand how to read the stock chart, understand where your profit and break even points are, and execute accordingly.
And we talk all about that inside of Power Trades University every week – the math, how to read the charts, determining your break even and determining the best time to buy and sell.
Question 8:
Can I day trade options?
Simple answer: YES.
If you are currently a day trader and ant to supercharge your trades, you CAN do so with options.
You can buy in in the morning, and sell in the afternoon.
When I was a day trader, I primarily day traded options.
I do not day trade anymore simply because it is like a job: you have to be in front of the computer ALL DAY and watch the charts.
I am at a point where this is not a job – I place my investments, don’t look at them for 30, 60, days and close out with profit and move on. I do not want to check on it every day.
Question 9:
Is option trading a good start for beginners?
Many people ask me this question when they are first getting started in the stock market – should I stick to stock trading and is option trading too advanced for a beginner?
To me, this question is like: Should I go to a community college or I should I go to a University?
At some point no matter what, if you want your Bachelors degree, you will end up at a 4-year University.
You should probably come straight into a University.
If we put learning trading into years at college:
- Fundamental research
- How to read stock charts
- Call & Put Options
- Advanced options
All roads lead to you going to a 4-year University ANYWAYS, so might as well start with it as a beginner.
If you don’t learn how to trade options as a beginner, you don’t have the strategies to hedge against risk and make money when the stock market goes down.
If you do not know option trading, you only have 1 strategy: buy and hold.
Come into the game learning the full scope of trading with all of the strategies.
People want to make money so badly and so quickly – when you tell them they need to LEARN something first before actually starting to trade, they typically say “that’s going to take forever”.
In reality, it takes a few months to learn.
Why is that “too long” to take control of your financial future?
You have to take the time to learn the strategies – otherwise you become a casualty in the game of stock market war.
Question 10:
What should everyone know about options?
Everyone should know that options are NOT as hard as you may think they are.
Everyone is already participating in options – with insurance (check out part 4 of this series) – so you already get it and you don’t even know it.
Options are NOT more risky. There’s just more components to it.
If you don’t learn how to trade options, then you don’t have the strategies to survive long term. You will only know how to buy, hold, and hope it goes up.
I hope this entire 5-part Option Series has been helpful to you and eye-opening for you. If you have ANY questions we didn’t cover, shoot me a message on Instagram or send us an email and let us know.
You should feel like a champion, that you CAN do this, and more informed on how options work.
NOW it’s time to make options work for you…. register for our free training or enroll in our Power Trades University.