Options Basics &

Using Options as Stock Insurance

Background

• How I got interested in Options
• Motivation
• Disclaimers
  • Not good at Stock Picking
  • Have not traded options (yet)

Options

• Options are contracts
• Tradable like stock (have value apart from the underling)
• Optional for the buyer
• Obligatory for the seller (there are ways out)
• Contract terms (1w, 1m, 3m, 6m, 1y, 1y+)
• Can be exercised at any time
• Sold in 100 stock units

Terms

• The Underlying
• Optionable
• Premium
• Exercising (American vs European)
• Strike (At-the-money, In-the-money, Out-of-the-money)
• Bullish / Bearish
• Long / Short
• Covered / Naked
• Assignment

What is Stock

• Ownership of a share in profits
• Bullish Investment
• Risky (Can lose entire investment)

 Option Types

Call & Puts

Buyers (long) & Sellers (short)

Calls

• The right to buy stock (Call away)

• Makes money when the stock price goes up

• Typically a Bullish position

• Mimics buying stocks (synthetic stock)

• As a seller you must have the stock (covered) or a margin account

At-the-money call (40 Strike): $2 

Puts

• The right to sell stock

• Makes money when the stock price goes down

• Functions like insurance

• Typically a Bearish position

• Mimics shorting stocks

• Sellers require a margin account

At-the-money put (40 Strike): $2 

Functions like Shorting Stock without the risk

Question

What kind of options are company options?

(Calls or Puts)

Advanced Options Strategies

• Combine 2 or more options trades
• Make money any way a stock moves (up, down, stagnant)
• Common Strategies
  • Spreads
  • Condors
  • Straddles
  • Strangle
  • Butterfly

Option Pricing Components

• Intrinsic Value (amount in-the-money)
• Time Value

Stock: $100

Option (110 Strike): $11

Intrinsic Value: $10

Time Value: $1

Problems with Stocks & Options

• Always expire worthless
• Overleveraging
• Possible to have unlimited loss
• Covered Calls effectively sort out winning stocks

• Can become worthless
• Impossible to time highs and lows
• Limit orders are vulnerable to price gaps

Options:

Stock:

The Solution: Married Puts

• Stock married to a Put Option (2 Leg investment)
• a.k.a Protective Put
• This create insurance on the stock price
• Far out expirations loose Time Value slowly
• Trade the option to capture gains (Rolling the Put)
• This strategy works in IRAs
• No margin account needed

Stock: $52 x 100 = $5200

Option (52 Strike): $4 x 100 = $400 

Total Investment: $5600

At Risk: $400 (7.14%) at Expiration 

More reasons to do this:

• Prevent loss of already winning stocks
• Lock in gains now and sell later (next year)
• Trade stock knowing maximum loss
• Potentially have a year to make sell desisions

1. "Rule No.1: Never lose money. Rule No.2: Never forget rule No.1"  -  Warren Buffet

Next Step

• Find Married Puts
• Find position adjustments
• Make the trade riskless
• Notifications

lets build the App!

Additional Strategies 

• Sell Puts then Sell Calls