INTRODUCTION
You’ve been introduced to the idea of OPTIONS in the last article.
In this article, you will learn about OPTIONS TRADING in detail.
OPTIONS TRADING
In part one, you learn that you could buy a CALL if you think the stock might go up, and you could buy a PUT if you believe the stock might go down, but at this point, it’s probably still a pretty abstract concept to grasp.
Hang with us as we explain further if you haven’t already guessed option contracts aren’t physical pieces of paper.
It’s all done electronically, and you can buy or sell an option contract with your brokerage account within a few milliseconds at the click of your mouse, just like we can buy and sell stocks.
What you were looking at is what we CALL an Options Chain.
What is an Options Chain?
An option chain is just a list of all the options that we can trade, and it also shows the price of each of these options;
you can find an option chain in your trading platform and a few different places on the web, such as Yahoo Finance, Google Finance, etc.,
But the one we are looking at right now is in our trading platform provided by the brokerage firm that we use to trade.
You can find a link to open a trading account with our favorite broker in the article description below. Again what you’re looking at right now is an option chain.
It shows you all of the available options and the prices of each one, and most of your favorite companies and even stocks you might already be trading have options. To see if a stock has choices, you must type in the ticker symbol.
If it does have options, you will see the data listed below. If it doesn’t, it will say no options are available for this symbol so let’s just look at Apple stock options by typing in the ticker symbol AAPL.
You can see there are many options contracts that we can trade. There are so many that it might seem overwhelming at first glance but don’t get intimidated.
We’re going to explain this in the simplest way possible now before we get into why these option prices are what they are.
We will go over some fundamental characteristics of options and show you how to read this option chain first; we must select our expiration.
EXPIRATION DATE
The expiration date, if you remember, is simply the date that the option contract will expire so you can see there is a list of all of the available expirations, and what you are looking at is the actual date that they expire.
The number in the center here simply tells us how many days are left until that expiration date so clicking on this expiration date, for example, will show you all of the options that expire on the 17th of July 2020.
You can see here that that date is 11 days from now, and remember, we are still covering the very basics, so we’re not yet going to go over which expiration you should be trading in.
There are pros and cons to choosing different expiration dates. You’re going to learn about this later in the article.
Right now, it’s just essential to get the basics down, so we’re just going to choose the expiration date with 11 days to expiration.
Once you click on the expiration date, you can see a whole list of options for that expiration. On the left side, you will see the CALL options that expire on this date, and on the right side, you will see the PUT options that expire on this date.
For now, let’s say we want to trade a CALL option with 11 days to expiration now we just have to choose our strike price, the strike prices of each option are listed vertically through the center of your screen, and just a side note, I don’t know who decided how an option change should be laid out.
Still, for some reason, they decided to list the strike prices in a sinning order, and you know I would think it would be the opposite where the higher strikes are higher on your screen, but you know it is what it is, and this is just something that you get used to now just like with selecting an expiration we also have to choose our strike price of the option we want to trade.
Again we aren’t going to get into which strike you should be trading until later, but for now, let’s just choose the 385 strike CALL option, okay, so that’s it.
We know how to navigate the option chain. To find a particular option, you can find a CALL option or PUT option with a specific expiration date and a specific strike price.
But you can also see the price of each of these options, just like stocks options also have a bid price, and an ask price, and we’re going to assume that you already know what the bid and ask price is.
If you want to buy an asset, you’re going to have to buy it at the asking price because that’s where the sellers are.
And if you want to sell an asset, you’re going to have to sell it at the bid price because that’s where the market is willing to buy it from you.
Simple enough now, let’s take this option off to the side, and we’re going to talk about its pricing a little bit and what it would look like if you wanted to trade this option.
Now stocks trade in shares, but options trade in contracts, and one options contract is going to control 100 shares of stock.
Let me explain. Remember, a CALL option gives us the right to buy the stock at its strike price at a later date, okay, so if we wanted the right to buy 100 shares of stock later, we would have to purchase one option contract.
Still, if we wanted the right to buy 200 shares of stock at a later date, then we would have to purchase two contracts, so that’s what we mean when we say one contract controls 100 shares of stock.
So let’s just say that we wanted to purchase one contract of this 385 strike CALL option. How much money would this cost us? Well, looking at this CALL option, you can see the bid price is 276, and the asking price is 281.
So to buy this option we would have to pay the asking price of 281, but here’s the thing to understand it’s going to cost us two hundred and eighty-one dollars per contract.
Since one options contract represents 100 shares, option prices will have a multiplier of 100.
Now we know this may seem confusing, and this is also something that you get used to, and with practice, it will become second nature very quickly.
One trick you can do is just think of these prices without the decimal point.
If the price says two point eight one, just remove the decimal, and it’s going to cost you two hundred and eighty-one dollars.
Now, remember we mentioned that you don’t have to trade stock. You can simply trade the options, so what do we mean by this well? Just like stock prices fluctuate and move around each day, option prices also fluctuate each day.
Various Permutations in trading
In my upcoming article, you will learn about what causes option prices to fluctuate and why they might go up or down in price, but for this example, let’s just say we bought one contract of this CALL option at 281, so we paid two hundred and eighty-one dollars, and over the next week or so, let’s say the options price goes from 281 up to four now.
Just like trading any asset, we constantly have to make decisions about when to sell, and we could, of course, hold this and hope it gets higher but let’s assume that we have decided to sell this option and take our profit, so we close this position by selling the CALL option that we own at four.
So if we bought something for two hundred and eighty-one rupees and sold it for Rs 400, it’s pretty clear that we made a profit of one hundred and nineteen rupees.
Now let’s look at one more example for practice. Instead of buying one contract of this CALL option at 281, let’s say we wanted to purchase two contracts. The concept is the same here. We’re just purchasing twice as many contracts.
So if one contract cost us two hundred and eighty-one rupees, then to find our cost of two contracts, we would simply just multiply that by two, so two contracts would cost us five hundred and sixty-two rupees.
So now, if the price of the option goes up and we can sell both of our contracts at four, then that means we turn five hundred and sixty-two rupees into eight hundred rupees.
So our profit would be two hundred and thirty-eight rupees now again three factors would cause an options price to move up or down resulting in a profit or loss the first factor that causes this we’ve already vaguely touched on.
Earlier, we discussed that factor is the movement of the underlying stock price. The price of a CALL option will typically go up in value if the stock’s price goes up, and the price of a PUT option will go up if a stock’s price goes down.
So to put it simply, if you buy a CALL option, you are betting that the underlying stock’s price will go up, and if you buy a PUT option, you’re betting that the underlying stock’s price will go down.
But remember, two other factors affect an options price, and they are extremely important, so don’t go buying options yet you’re going to learn about these in the upcoming next article.
Now before we move on, let’s recap what you’ve learned in this article.
You learned what an option chain is. This is simply what you’ll look at to find all the listed options in the price quotes of each option. You can find an option chain in multiple places, but you’re probably going to want to view options in your trading platform provided by your brokerage account.
You also learned that option prices have a bid and ask price just like stocks. One option contract controls 100 shares of stock, and because of this option, prices have a multiplier of 100.
Okay, guys, now in the next article, we’re gonna go in pretty deep, and you’re gonna learn the three factors that cause an options price to fluctuate.
Conclusion
This is where it gets cool because then you will have the base the knowledge you need that will allow you to start learning strategies to profit from option price fluctuations, so alright, guys hope you enjoyed the article and are staying safe out there.
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