Invest in options
Invest in optionsIf you are considering investing in options, you must first know what options are. In this introductory lesson about options you will learn the first basic principles of investing in options. Options are a derivative of, for example, shares. Options are nothing more than a right to, for example, buy 100 shares or sell 100 shares at a predetermined amount.
Call optionA call option is an option that gives you the right to buy 100 shares at the predetermined price, the exercise price. You use this right if the price of a share exceeds the exercise price of the option.
Suppose you want to buy 100 shares from the fictitious company ABC. The price is Ђ 10. You can then simply buy the shares on the stock exchange and hope that the price will rise. The purchase price is Ђ 10 times 100 pieces is Ђ 1,000.
You can also purchase an option at the ABC company. At the time of decision, a call option for 9 months for a price of Ђ 10 is worth exactly Ђ 0.75. This means that you have to pay 100 times Ђ 0.75 Ђ 75 to get this option. Suppose the price of ABC rises to Ђ 15, then you can buy the same shares at Ђ 10. If you resell the shares directly on the stock market, you immediately make a profit of Ђ 5 minus Ђ 0.75 purchase option = Ђ 4, 25 per share.
Put optionA put option is an option that gives you the right to sell 100 shares at a predetermined price, the exercise price. You use this right if the price of a share drops. You may then sell the same 100 shares at a higher price.
Suppose you do not know whether your investment in ABC will achieve a good return in the coming period. You even think that the price may fall. You can then mitigate this risk by purchasing a put option on your shares. This way you insure your shares against a fall in price. Suppose you buy a put option at an exercise price of Ђ 10 and the price drops to Ђ 4, you can nevertheless sell the shares at Ђ 10. You will then generate Ђ 6 more turnover than if you now sell the shares on the stock exchange.
|Straight||Buying shares||Sell shares|
|Course direction||Advantage if the price is higher than the exercise price||Benefit if the price is lower than the exercise price|
Risk optionsAn option always has a number of variables, whether it is call or put options. The option has a maximum duration and an exercise price. If an option has a duration of nine months, the option ends after nine months. Your money can then simply be gone. This is in contrast to a share, where you only lose the money if the company goes bankrupt or is nationalized like SNS Bank.
The exercise price of an option says something about the price at which you want to buy the shares (call option) or want to sell (put option). In the case of a call option you run the risk that the price will never exceed the strike price. In that case the option will expire worthless and you will have lost your money. If you have a put option, the risk is that the share price does not fall below the exercise price of the option.
In short, options have a much higher risk profile than shares. With buying options you can lose the sum of money you have invested. This is an introduction to investing in options. Here I assume that you only buy options. This is in contrast to writing options, which is a completely different story.