Interested in learning some basic strategies you can use to manage financial risk? One way to do this is to use options.
An option that grants the buyer the ability to purchase or sell a financial asset at a fixed price within an agreed-upon time frame. If you decide to buy one of these securities, the person who sells you the financial instrument is called the option writer, and you as the purchaser are referred to as the option holder.
It is important to note that once you own an option, you have the right to buy or sell the asset, but you are in no way obligated to do so. Purchasing a call option will give you the right to buy an asset, whereas a put option will grant you the right to sell.
The price that is agreed upon between the option writer and the option holder is the strike price. The time frame that the buyer has to either sell or buy the underlying asset is the exercise date.
Use of Options
Traders use options contracts to hedge, or reduce risk, or speculate, and increase risk. The parties that buy and sell options related to an asset have different predictions of where that asset's prices will go.
If an investor is offering to sell you a call option for a specific financial asset, he believes that the price of the underlying asset will fall compared to the strike price during the time frame included in the option contract, since he will need to sell you the underlying asset if it rises above the strike price.
Alternatively, if an investor is offering to sell you a put option, he thinks that the price of the asset will increase above that of the strike price during the time period contained in the contract. If this happens, he will have the ability to buy the stock for a lower price and then sell it for a gain.
According to Forbes, you don't need to post margin when purchasing an option because your only risk is the price of that option. If you sell one of these financial instruments, you will get a credit in your account for finding a buyer for the option, and you will get to keep this amount if the contract expires.
However, you need to have substantial margin in order to sell an option. If the contract is sold and then exercised, you are obligated to buy or sell the underlying instrument involved in the contract.
Once you have the basics of options trading down, you can use a wide array of strategies that involve these financial instruments. These techniques vary from basic risk management to more sophisticated strategies.
If you want additional options trading education, you can find it at TradingPub, which gives you the opportunity to interact with some of the top traders and investors in the industry.