Hello all here are some basic rules of option trading that will help you a lot.
Basics of Option Trading
Most investors looking for ‘tips’ for successful trading have a misconception. They are looking for tricks, special tactics, or 'do not miss' tricks. There are no such things.
We give you basic rules of option Trading.
The options are the best investment vehicles around. They allow investors to take longer, shorter or more neutral positions. They allow you to manage the risk much better than any other investment option. Use them well and they will treat you well.
Understanding what is options Trading
Trading options give the buyer the right but not the obligation to purchase basic security at a predetermined price called a strike price. On the other hand it gives the seller an obligation to honor the contract but not the right.
I will try to explain this as easily as possible.
There are two types of options, call and placement.
Call: The current market price for Say Infosys is Rs. 1000 and X feel like it could cross Rs. 1100 until the expiration date of the current April contract (expiring on the last Thursday of the month), X may purchase a 1100 Strike price for the April contract.
It says, Y contract seller, X needs to pay a fee of Rs. 10 (name) the same as Y. The total size of Nifty is 500 shares on the NSE. Thus, X pays Y 10x500 = $ 5000 to enter into an agreement (unthinkable brokerages).
If time expires, if the price of Infosys is less than $1100 contract expires until X loses $ 5000 before. If the price is less than $1100 and up to $1200 (say), then Y needs to pay more than $1100 of which $50000 ((1200-1100) x500) but you get to keep the first premium paid by X, which is $5000 in this.
Alternatively both buyer and seller can set their positions at any time during the month. For example, the next day Infosys reached $1050 which is why the premium increases to $40, X can choose to suggest a position.
When we square X it will be the seller to say Z. Therefore, Z will pay $20000 (40 × 500) to X. The contract will now continue with Z as the buyer and Y as the seller. And note, similarly Y can cross at any time in the month. After the square the seller will change in this case.
As you can see, the seller has a limited profit but an unbalanced exposure to losses while the buyer can get unlimited profits by investing as little as a premium. Consumer loss is hidden.
2. Set: This is another option for wire crossing. Take X to hear that Infosys will fall below 900 (in the same example above), X buys put for a fee of say $ 8 per share (= 8x500).
If Infosys last less than 900 months, say 800, Y pays X difference (= (900-800) x500). All other closed and expired square rules remain the same. If the price does not fall below 900, the option expires unnecessarily.
I hope this gives a basic idea of options. This is an introduction and probably only 5% of all trading options of choice. You need a lot of understanding before you go into options trading but this will give you a start.
Rules for Successful Options Trading
Here are nine simple tips for sellers of new options to follow if they want to succeed.
Options are best used as a risk reduction tool, not a gambling tool. (Read my article, why trade options?)
Use Greek options to measure risk.
1. Handle with caution. Don't hold any position more than you can handle - in the worst case - more expensive than you are willing to give up.
2. Be careful with the number of contracts you choose to trade. It is easy to trade too much with less expensive options - especially when you sell.
3. Don't go broke. Never allow an unexpected event to delete your account.
4. Do not expect miracles. Don’t buy options that are too far away from money just because they are ‘cheap.’ The chances of success are slim. Not zero, just a little bit.
5. Selling naked options is less risky than buying stocks. However, as with stock ownership, there is a high risk of looking down. The opposite: It makes sense to sell naked - but only if you want to buy shares, if you have been given an exercise notice.
6. Reduce losses. The most effective way to achieve that is to buy one option for every option you sell. That means selling spreads, instead of naked options.
Hope is not a strategy. When the position worsens, consider minimizing the risk. Do nothing and hope for a better outcome is nothing more than gambling.
So remember these basic 5 rules of options Trading and play smart.
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