Trading Option means buying or selling Options over the exchanges. Option trading is designed for sophisticated investors. Traders use the option trading for speculation as well as hedging.
The main advantage of trading option is the leverage offered by the options trading. A trader can invest in Options with very less investment instead of investing in the underlying security.
If he chooses to invest in the underlying security he has to pay the full price of the security. But instead of buying the security in cash market he can buy a right to buy the same security i.e. option on that security with a very less price.
The trader may, if he wishes, buy the underlying security at the time of Option expiry. Here the buyer of the option would always have a right to choose to exercise or not to exercise. If the market situation goes against his expectations he may simply choose not to act.
This facility is not available in case of actual stock trading where in if you buy or sell anything you have committed your investment which would be subject to risks coming through the market movements.
Also with the leverage offered by many Option Brokers you can take high positions with minimum investment.
Option trading can be used as a speculative tool to reap the benefits of volatility of stocks. Also you may take the advantage of price fluctuations of high priced stocks by taking advantage of leverage in option trading.
Options can be used as a hedging tool to protect your stocks against adverse price movements.
Suppose you own 1000 units of Stock ABC at a cost of $100 each & you anticipate a fall in price of the stock. You may buy a Put Option on Stock ABC with expiration after 60 days at a strike price of $115. For that you may pay an Option premium of say $10. So at the Option expiry if the actual price of Stock ABC falls to $80 you would still be able to sell the stock at a price of $115 under the option contract. Remember here that you have bought a put option & you have a right to sell the underlying stock at strike price & your counterparty (Seller of Put) would be under an obligation to buy the same.
Similarly if you think that the price of any stock would increase you may buy a Call Option i.e. a right to buy the underlying stock at strike price. In our example suppose the current market price of the stock is $100 & you expect the price of Stock ABC to increase but do not wish to invest in buying the stock itself but you may buy a Call Option at a strike price of $110 by paying $10 option premium. If the price of Stock ABC at the expiry of the option increases to $125 you would earn a profit with minimum investment (option premium).
Trading Options allows the traders to formulate different strategies for each market movement whether it be an upward movement or a downward movement.
As compared to trading individual stocks the option trading can be less risky if proper strategies are used. But wrong strategies used without understanding the basics could be fatal. Many times Option trading can be dangerous & if the market moves in opposite direction than what you have anticipated you may lose whole of your capital & loss potential could be unlimited. Also you need to understand the terms of each Option contract before you buy or sell any option.
Option trading is a fantastic tool which, if used with proper analysis & correct data could make wonders.
If he chooses to invest in the underlying security he has to pay the full price of the security. But instead of buying the security in cash market he can buy a right to buy the same security i.e. option on that security with a very less price.
The trader may, if he wishes, buy the underlying security at the time of Option expiry. Here the buyer of the option would always have a right to choose to exercise or not to exercise. If the market situation goes against his expectations he may simply choose not to act.
This facility is not available in case of actual stock trading where in if you buy or sell anything you have committed your investment which would be subject to risks coming through the market movements.
Also with the leverage offered by many Option Brokers you can take high positions with minimum investment.
Option trading can be used as a speculative tool to reap the benefits of volatility of stocks. Also you may take the advantage of price fluctuations of high priced stocks by taking advantage of leverage in option trading.
Options can be used as a hedging tool to protect your stocks against adverse price movements.
Suppose you own 1000 units of Stock ABC at a cost of $100 each & you anticipate a fall in price of the stock. You may buy a Put Option on Stock ABC with expiration after 60 days at a strike price of $115. For that you may pay an Option premium of say $10. So at the Option expiry if the actual price of Stock ABC falls to $80 you would still be able to sell the stock at a price of $115 under the option contract. Remember here that you have bought a put option & you have a right to sell the underlying stock at strike price & your counterparty (Seller of Put) would be under an obligation to buy the same.
Similarly if you think that the price of any stock would increase you may buy a Call Option i.e. a right to buy the underlying stock at strike price. In our example suppose the current market price of the stock is $100 & you expect the price of Stock ABC to increase but do not wish to invest in buying the stock itself but you may buy a Call Option at a strike price of $110 by paying $10 option premium. If the price of Stock ABC at the expiry of the option increases to $125 you would earn a profit with minimum investment (option premium).
Trading Options allows the traders to formulate different strategies for each market movement whether it be an upward movement or a downward movement.
As compared to trading individual stocks the option trading can be less risky if proper strategies are used. But wrong strategies used without understanding the basics could be fatal. Many times Option trading can be dangerous & if the market moves in opposite direction than what you have anticipated you may lose whole of your capital & loss potential could be unlimited. Also you need to understand the terms of each Option contract before you buy or sell any option.
Option trading is a fantastic tool which, if used with proper analysis & correct data could make wonders.
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