Options Trading Education » Call Options

Day Trading Options

Jim Walker — Tue, 01 Nov 2011 17:21:54 +0000

The stock market had a strong month and corrected at the end allowing those day trading options to profit from both advances and retreats of the market. The constantly simmering European debt crisis continues to cast a pall over expectations. It is, to a degree, a lose-lose situation. If the wealthier members of the EU do not step to the fore and bail out their brothers in Greece, Italy, Spain, Ireland, and Portugal the Euro will likely fall and markets suffer worldwide. On the other hand if Germany, France, and others ante up the roughly €2 Trillion in cash and credit needed to stabilize the situation the mounting debt will act as a constant drag on the second largest economy in the world. With the continued uncertainty of the markets today many are reticent to invest. An efficient means of how to trade stock options in such as market is day trading options. This approach always has the potential for profit as options traders have the ability for profit with each fluctuation caused by the news or by a twitchy market.

The end of October market adjustment is consistent with profit taking by those who successfully anticipated the rise in stock prices over the month. Many believe that US fundamentals are improving and that the many US companies sitting on substantial sums of cash will eventually start using that cash for R&D, expansion, or other purposes that will result in job growth and a stronger economy. Those folks will likely use the most recent retreat to buy calls on promising stocks. Those day trading options, on the other hand will likely just follow the shorter term corrections of the market. These folks virtually never buy stocks but rather buy and sell options contracts, essentially scalping profits from the market as it moves up and down. Successful options trading does not come from trading options on rumors . It comes from skillful analysis and execution of trades.

In day trading options traders look at both fundamentals and what other traders are doing. In options trading education traders learn than fundamental analysis for day trading options is really no different than what one does for trading stocks directly. Traders look at the intrinsic value of a stock and at its margin of safety. Then they use technical analysis to track stock prices and options prices. Markets tend to repeat themselves and technical traders believe that by watching a specific price pattern develop that they can predict, solely on this basis, where a stock price or options price will go next. This approach is especially useful when day trading stocks directly and day trading options. The fundamentals of the stock many not have changed from when the market opened until it is ready to close but traders will often have bid a stock price up and down in an effort to profit from further expected movement.

In day trading options, as in other stock options trading , smart traders always use trading stops. This means that when a trader buys calls on a stock at a given price he sets a limit order for the opposite trade on the same stock at a slightly lower price. In this way he avoids losing the value of his contract if new, negative fundamentals emerge. As the price of the stock and the option rises he will steadily increase his stop loss limit order. He will also decide on a reasonable amount of profit to expect and, hopefully, execute at the top of the price curve before a fall, when day trading options.

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What are Call Options?

Jim Walker — Fri, 04 Mar 2011 23:53:20 +0000

What are call options? In stock trading these are contracts giving the buyer the right to purchase 100 shares of stock per contract. The trader pays a premium to purchase the options contract. He then has the right to buy stock but is under no obligation to do so. The trader will analyze the fundamentals of a stock and do technical analysis of stock price patterns seeking to predict price movement. When he believes that a stock will go up in value he can do a number of things. He can just buy the stock. But then, if the price goes down he has lost money, maybe a lot if the fall is precipitous. He has also tied up a fair amount of capital in the transaction. An alternative is to buy call options. What are call options in this regard? They are a means of reducing investment risk and capital outlay. They are a means of leveraging investment with limited risk. In learning how to trade stock options effectively and profitably the trader will need to understand the stock involved, to have done his fundamental and technical analysis, and to follow the stock that underlies the option as it is the driver of the options price.

An options trader will not always buy calls on a promising stock. He may buy puts as well. The trader buys calls when he thinks that the stock will go up in price. When it does he exercises the contract to buy the stock or simply executes the opposite trade and takes a profit. If he believes that the stock will go down in value he will buy puts. This gives the right but no obligation to sell the stock in question. If the price does, indeed, go down in price he can sell stock that he already owns but at the contract price, the strike price. He can then purchase at the, now lower, market or spot price. If he does not own the stock to begin with he can purchase the stock at the lower price and use that stock to sell when he executes the options contract. Like with calls the trader can also exit his contract and take his profit without touching the stock in question. How to trade stock options, for many, is just like that. Now, what are call options or put options to the seller?

Options writing, or selling options, is typically more profitable over the long term than buying options. Professional options writers only trade stocks in which they have substantial expertise. They are typically large institutional investors with substantial amounts of cash behind them. Thus, when an options trade goes badly, such as with a put option where the bottom falls out of the stock, they have the reserves to absorb the occasional large loss. What are call options and what about selling them for investors who own stocks? This can be a nice source of income, like getting a dividend check in the mail. The owner of a cyclical stock can sell calls on stock that he owns. If he only sells when he believes the stock will not go up substantially in price he will likely not need to sell stock because the buyer of the option will not execute the contract. The investor can sell options on his stock every quarter and profit each time. The down side is that if the stock suddenly moves up in the value the buyer will execute the option contract and the investor will lose out on the price rise of his stock. When to buy calls and when to buy puts is a learned skill. The trader needs to learn fundamentals, practice technical analysis, and engage in risk management. Then what are call options? They can be a profitable way to trade stocks.

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What Happens to a Call Option if a Company Splits Up?

Jim Walker — Wed, 16 Feb 2011 16:45:25 +0000

How to trade stock options can vary with sometimes unforeseen circumstances. For example, what happens to a call option if a company splits up? What happens if the company merges with another company? How about when dividends are paid? For options traded on the CBOE, the Chicago Board Options Exchange, options are adjusted to fit the circumstances of dividend payments and other factors that affect the value of the stock on which a call or put is purchased or sold.

These are a few of the questions raised and answered on the CBOE web site. If one holds a call option on a stock will he receive a dividend paid for the stock? The answer is no. You need to own the stock in order to receive the dividend. In other words you need to exercise the call option on or before the In-dividend date in order to receive the dividend. The price of an option will typically fall after the In-dividend date as the holder of the option will not be able to exercise the option and receive the dividend. Back to the original question and regarding dividends what happens to a call option if a company splits up before the In-dividend date? The more important date here may well be the Declaration date. This is when the company board of directors declares a dividend. If a company is in trouble and about to be split up it may forego declaring a dividend, which will reduce the value of the call option. Succeeding in options trading requires that an options trader keep track of such events as they affect the stocks on which he is trading options.

In regard to exercising the option and the value of the option what happens to a call option if a company splits up? This falls under contract adjustment. To quote the CBOE, “Whenever the terms of an equity option contract have been changed to terms different from its original standardized terms, such as the contract’s deliverable (unit of trade) after an underlying stock split, or corporate action such as a take-over, merger or special stock or cash distribution, those terms will be adjusted to account for this.” For the options trader knowing when and how a contract’s terms have been adjusted is basic to how to buy stock options. The first hint of a contract adjust will typically be a seemingly mispriced option. In other words the option price will not seem to fit the underlying stock price and the strike price of the option. This will especially be true if all put and call prices are far different that when one might expect. The trader can check the contract adjustments area of the CBOE web site for bulletins regarding adjustments made due to special distributions, mergers, stock splits, or more damaging news such as a company splitting up.

A contract adjustment is what happens to a call option if a company splits up. To quote the CBOE site again regarding “other types of corporate action” than stock splits, “such as mergers, take-overs, spin-offs, and special distributions of cash and/or stock, adjustments fit the circumstances and terms of each action, and these vary from situation to situation. If you have, or are contemplating an option position in any class of options that is undergoing contract adjustments, be on the alert. Make yourself fully aware of what the adjustments are and how they may affect you financially.” In short, what happens to a call option if a company splits up can have a dramatic effect on call option price and needs to be attended to promptly to avoid significant loss. How to trade options in these cases is to be aware and check out discrepancies promptly.

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How to Write a Covered Call

Jim Walker — Tue, 28 Dec 2010 16:53:30 +0000

A covered call option is an options contract sold by someone who owns the underlying stock, commodity, or future. To profit from writing calls one needs to learn how to write a covered call. So, what is a covered call? Owning stock provides a cover for selling a call on a stock. If stock prices go up sufficiently buyers of call options will execute call options contracts. By owning the stock already, sellers of call options need not lose money buying stock at the new, spot price. They will receive the strike price, the contract price, whatever the new price of underlying stocks, commodities, Forex contracts, or futures. The writer of the option always received the premium, the price of the option. How to write a covered call is, typically, to go through a broker. If the broker you use does not provide this service either on the phone or online it is time to consult another stock broker. Not all stocks have options. Check to see if your stocks are optionable. Then you can engage in this long options strategy.

How to write a covered call most profitably has to do with picking the strike price of the option. A very high strike price, compared to the current price of the stock, will sell for less but the contract will be less likely to be executed. Thus the owner of the stock and writer of the option will be able to recurrently sell options on his stock. This is a little bit like eating your cake and having it too. However, if the options writer chooses to sell an option with a lower strike price, compared to the current stock price, he runs the risk of having to sell his stock at the strike price and forego the profit he would have made on the stock when it rose in price. How to write a covered call most profitably is to have a clear idea about just where the stock is likely to go in price and only sell options when you believe the price will not go up. This strategy applies to how to trade stock options, in general.

How to write a covered call includes choosing a time frame. The longer the time until the call option expires the larger the time value of the option. That is to say there is more time for the stock, commodity, futures contract, or Forex contract to rise in value so that the buyer will execute it. The ideal situation in writing an options contract is for the owner of the equity to receive the premium, keep the equity, and repeat the process numerous times. An options trader will sell to open. He receives the premium immediately and assumes the obligation to sell should the buyer choose to exercise the option contract. This is often an occasional options trading strategy for those owning stock and wishing to add to their cash flow. Writing covered calls successfully can be like receiving an extra dividend check every so often.

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How Do Puts and Calls Work?

Jim Walker — Mon, 20 Dec 2010 21:46:02 +0000

Puts and calls are types of options contracts. How do puts and calls work? In trading both puts and calls the options trader pays for the right to sell using a put option or right to buy using a call option. Puts and calls are used in trading stocks, commodities, or foreign exchange. The buyer of a put or call retains the option to sell or buy the underlying equity at the contract price, also known as the strike price. The seller of a put or call receives payment and agrees to buy or sell at the strike price no matter what the market price is should the buyer choose to execute the options contract. How do puts and calls work for the various types of underlying equities? When to buy puts is when the investor or trader believes that an equity will go down in price. When to buy calls is when he believes the underlying equity will rise in price.

How do puts and calls work in trading stocks? A trader will study stock fundamentals and then study market prices with technical analysis tools. How to trade options on stocks is to decide if the stock price is likely to rise or fall. Then the trader buys a call option for a stock which will probably rise in price or a put option for a stock that is likely to fall in price. Because the buyer of an option is under no obligation to buy or sell stock he need not execute the contract if the price movement of the stock moves against him. If the price of the stock moves in the expected manner he will execute the contract. For a put option he will be able to sell stock at the contract price even if the stock has fallen in price. For a call option he will be able to buy stock at the contract price even though it has risen in price. In each case his profit is the difference between contract price and market price, minus the premium paid for the option and fees and commissions from the purchase or sale of stock.

How do puts and calls work in trading commodities? Puts and calls on commodities work in a similar fashion to puts and calls on stocks. In the case of commodities the buyer is purchasing the right to buy or sell futures on commodities such as corn, cattle, oil, or gold. Holding an option insures him against the risk of an unexpected price movement as he never has to execute the contract. If, however, his analysis is correct and wheat, corn, oats, oil, or silver futures skyrocket he will be able to buy at the contract price and then sell at the much higher spot price for a sizable profit. In the end how to trade futures options is not so much different from trading stock options. Only the underlying is different.

How do puts and calls work in trading foreign exchange? There is symmetry to trading two currencies such that buying calls on Yen with dollars is really the same as buying puts on dollars with Yen. Think of buying dollars with Google stock and you will be on track. As Yuan options trading begins in China next year traders will be able to buy puts and calls on the Yuan with a range of foreign currencies.

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Who Owns Citigroup?

Jim Walker — Wed, 08 Dec 2010 19:19:30 +0000

As the question of who owns Citigroup gets settled, options on Citigroup are through the roof. The news reports that the U.S. government is selling its stake in the financial giant. Who owns Citigroup will no longer be the Feds. Outstanding options contracts on Citigroup surged to over twenty-five million. That translates, of course, to over $2.5 Billion shares that could conceivably change hands. Calls are running roughly two to one over puts as investors assume that the ailing financial giant’s stock will rise. Although Citigroup did not go into bankruptcy and emerge in an IPO like GM did there are some similarities to GM options in this scenario. Both companies survived the market crash with substantial government intervention and have the potential to become very large and profitable business entities again.

Citigroup operates under the Citi brand. It was formed in a merger of Travelers Group and Citicorp in the late 1990’s. After experiencing large losses during the 2008 global financial meltdown the company received $25 Billion in bailout funds from the US government for which it eventually gave 27% of the company’s stock shares to US taxpayers. Despite suffering huge losses in 2008 the company is still the world’s largest financial services network employing over a quarter of a million people throughout the world. Other large shareholders are from the Middle East and from Singapore. Succeeding in options trading of a company such as Citigroup requires an appreciation of its long term potential and the financial clout of who owns Citigroup. The company was not allowed to go under and be broken up and is now poised to rise from its own ashes.

Many buying calls on Citigroup seem to think that these are good times for trading options on this company. One of the four largest US banks, along with JP Morgan Chase, Wells Fargo, and Bank of America, Citigroup has traded between $3 and $5 a share over the last year. A focus of options trading is currently January $5 calls. Considering that Citigroup was selling at $3 a share a couple of years ago many traders are expecting a continued recovery of the company.

As the majority of options contracts are calls traders are predicting a rise in Citigroup’s share price. When to buy puts on Citigroup is, of course, when one expects a fall in its share price and a return to less promising circumstances. With the news of the government selling its shares two things come to mind regarding the question of who owns Citigroup. One is that more shares are now available for the rest of us folks. The other is that Citigroup will not have a government watchdog on its board of directors telling the company what to do. Certainly there is a good argument that the company, as well as most banks and financial institutions, could have used better advice prior to the 2008 crash. However, investors, over the long run, tend to believe that keeping bureaucrats out of the board room leads to more profits. And, the current answer to who owns Citigroup could now include you.

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How Do Call Options Work on General Motors?

Jim Walker — Wed, 01 Dec 2010 16:38:46 +0000

How do call options work on General Motors? After the successful initial public offering of General Motors stock the revitalized company’s stock is also listed on options exchanges. The stock has been trading in and around the $34 range and many do not expect to see a rapid increase in share price. Thus, some options traders are looking at selling calls on GM. How do call options work on General Motors Stock? A call options gives the buyer the right but not the obligation to buy 100 shares of stock, per contract until the contract expiration date. The buyer receives a premium for offering the same 100 shares. Covered calls are when the owner of a stock like General Motors sells calls. Uncovered calls are when an options trader does not own shares. If the stock does not rise appreciably in price the owner of General Motors stock will pocket the premium and continue to own the stock. Likewise a trader who does not own the stock will earn a premium whether the buyer exercises the option or not. If the stock goes up in price the buyer will exercise the option and buy 100 shares of stock per contract. The owner of stock will simply sell his stock and forego any gains in excess of the premium received. The trader who does not own stock will need to buy stock at the new and higher price in order to satisfy the contract. GM options will trade like any others and those who correctly anticipate price movement will benefit.

How do call options work on General Motors stock for the trader? The trader will need to sell stock if the buyer exercises the option. As he did not own any stock he will buy at the current spot price of the stock but will need to sell at the strike price which is the lower contract price. A trader who does not own any stock can make nice profits on selling calls providing that he picks his stocks right. Naked options trading provides the investor with a great deal of leverage. How do call options work on General Motors stock for the trader if the stock price rises greatly? This could be devastating as the same leverage works both ways for those who sell options on stocks that they do not own. Beside how do call options work on General Motors on can ask how do stock options work in general? It depends upon whether one buys or sells and if the options are puts or calls.

How to call options work on general motors stock is not all that an investor should ask if he is interested in how to trade stock options profitably on GM. If the investor believes that the GM stock price may indeed fall he may be more interested in buying puts that in buying calls. The buyer of a put option pays for the right to sell 100 shares of the underlying stock at the strike price, the contract price, but is not under an obligation to do so. The seller of a put option, however, is obligated to buy at the strike price. If, as the buyer anticipates, the stock price plummets the buyer of the option will exercise the contract and sell the stock at the contract price. He will then be able to repurchase the stock at a much lower spot price. An investor who owns a block of stock in a volatile market will often buy puts in order to hedge his stock position. A trader who firmly believes that the price of the stock will not drop will often sell puts and earn a premium on each contract. The risk for the trader is that if he is wrong the losses can be significant. For the investor interested in profiting from GM stock volatility asking how do call options work in General Motors is a step in the right direction.

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GM Options

Jim Walker — Tue, 23 Nov 2010 14:42:49 +0000

After GM’s IPO has returned the auto company to the NYSE the company’s stock will soon be available for options trading. United States options exchanges will be listing call and put GM options as of November 29. Current expectation on the street is that December $35 GM options calls will be around $1.60 bid price and $1.80 offer price. This reasoning is based upon the current interest rate and upon the assumption that GM stock volatility will be similar to that of other major auto makers. Trading GM options will be a means of profiting from both the post IPO volatility of the stock and subsequent GM stock price movement. How to trade options successfully on GM stock will depend on these two drivers of stock price.

When to buy calls on GM options will be when the trader expects the stock to go up and when to buy puts on GM options will be when the trader expects a fall in stock price. In the short term there is a lot of speculation as to how well GM will do coming out of bankruptcy. Traders will use GM options to speculate on price changes. Investors who purchased the IPO at the pre-opening price of $33 immediately profited at the stock rose to nearly $36 and then settled at around $34 a share. Those who believe that there will be no immediate strong gains in GM stock will sell calls with GM options, expecting to earn the premium and still hold on to the stock. This means of “eating your cake and having it too” is a common strategy of those holding long positions in stocks. The only risk in this case is that GM stock will rally and the stock owner will be forced to sell at the strike price when the current market price, the spot price, will have risen. Obviously anyone who believes that the stock is about to rally will be buying calls and not selling them.

Some believe that GM stock will settle lower once all of the excitement of its reemergence on the New York Stock Exchange dies down. These folks will likely be buying puts with the expectation that a drop in stock price will yield them a profit. In the case of those who are currently long in the stock a put in GM options will protect the small price gain that the GM IPO made as it opened for trading. Succeeding in options trading with GM will depend upon an accurate reading of both GM stock fundamentals and technical market indicators. Certainly the fact that GM has accumulated several billions of dollars to start paying off its debt to the US treasury is a strong indication that it is on the road to recovery. However, investor sentiment can be hard to predict. Thus the GM options trader will be wise to keep a close eye on technical stock indicators for GM in order to profitably trade GM options. The continuing one third ownership of GM by the US government is one matter to consider as it limits the freedom of action of the recovering company. As usual our purpose in this article is to walk through the process of evaluating a stock for options trading. Whether the trader chooses to trade these options will depend upon their own careful analysis of the pros and cons.

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Buying Calls on Retailers

Jim Walker — Mon, 15 Nov 2010 21:20:46 +0000

Buying calls on retailers is looking attractive as last month’s sales were the best in over half a year. As the holiday shopping season gets into full swing retailers are offering the usual discounts to get shoppers into their stores. It appears to be paying off as companies such as JCPenny who reported an increase of third quarter profits by almost two thirds. In fact the increase in pre holiday season sales would seem to indicate that consumers are more comfortable with spending their money even through unemployment is still stuck in the ten percent range. Buying calls on the likes of JCPenny, Target, Wal-Mart, and the rest could be profitable if sales continue to go up. However, the trader will need to be wary about purchasing calls on stocks whose prices have already gone up. The market’s habit of discounting information could make buying calls on retailers an effort in futility if stock prices are already at what future sales will support. Always a concern in how to trade stock options is whether the trader is getting in before or after the market has discounted anticipated earnings. On the other hand, if the market discounts increasing sales, and sales don’t increase, buying puts instead of buying calls on retailers could be the profitable way to go.

In buying calls the trader does not incur an obligation to buy a stock. Rather he purchases to option to purchase if he so chooses. The important issue is timing. By the time retailers are reporting sales results it is too late to profit from options trading as the market will have discounted that information. Succeeding in options trading requires that the trader correctly anticipate the fundamentals that drive stock price as well as market sentiment about where a company’s fortunes are going next. Part of the analysis of where stock prices will go for retailers, hinges on economic forecasts for the economy at large. As employment and wages go up there is more money to spend and we can expect the Targets and Wal-Mart’s of the world to prosper. However, coupled with the good news of increased sales and profits at JCPenny is a report of a contraction in manufacturing in New York, New Jersey, and Connecticut by roughly 25% to a level indicating a contraction in this sector. Thus, even though sales are up there is always the possibility of economic contraction hitting the consumer’s pocketbook down the line. Buying calls on retailers in the short term could profit from holiday season sales and suffer from layoffs in the coming months. The trader will need to assess both factors as well as current stock prices before buying calls on retailers, especially those with major operation in the Northeast.

Uncertain economic times are commonly good times for trading options. The question is if puts or calls will be what make a profit. A long straddle options trading strategy can be profitable in a market situation where two opposing factors could take a stock price either up or down. The long straddle involves buying both puts and calls on the same stock with the same expiration date. The trader profits if the stock goes up in price or it goes down. He only loses if the stock price remains stable but only loses the price of two premiums. As usual we are not suggesting that the reader buy or sell the stocks in question nor that he trade options on them. The point is the exercise to go through when considering when to buy puts and calls.

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What Are Calls and Puts?

T.D. Thompson — Sat, 06 Nov 2010 01:32:17 +0000

What are calls and puts in options trading? Calls and puts are the names for the types of contracts used to buy and sell stock, commodity, and futures options. The answer to “What are calls and puts?” depends also, to a degree, upon the point of view of the trader. Calls and puts are kinds of options trading that can offer a high degree of leverage to the investor (buying) or the prospect of continuing long term profits in the hands of skilled traders (selling). The options trader looks to buy options which have a low premium (price) and for which the trader believes the underlying equity price will rise (call) or fall (put). When there is a moderate to substantial move in equity price the trader will earn a substantially larger return on his investment than if he had bought the equity or sold short.

Over the long term options writing (selling) tends to be more profitable than buying. However, because of the risk of occasional substantial loss writing options is largely the province of large institution investors with the financial reserves to absorb that occasional loss. What are calls and puts for the professional making a living trading options? They are a means of making a living by anticipating whether a stock price will rise, fall, or stay the same. The options seller looks for equities that are unlikely to go up in price (calls) or down in price (puts).

A call contract gives the buyer the option to purchase the underlying equity which he will do if the equity price moves in the direction anticipated. A call contract confers an obligation on the seller (writer) of the call option to sell the underlying equity if the buyer executes the contract. Similarly a put contract gives the buyer the option to sell the underlying equity which he will do if the equity price moves in the direction anticipated. A put contract confers an obligation on the seller (writer) of the put option to buy the underlying equity if the buyer executes the contract. Covered options trading is when the seller of a call option or buyer of a put option owns the equity in question.

What are calls and puts to buyers versus sellers of options? Buyers of both calls and puts typically engage in uncovered options trading, also known as naked options trading. Because the premium paid for the option is typically a small fraction of the price of the equity, the buyer may gain a multiple of his investment when the equity price moves. Because the options buyer will only execute the contract when doing so is profitable the maximum loss he can incur will be the premium paid for the contract. He does not need to have any collateral in case of a larger loss. On the other hand the seller of a call may well own the stock or other equity in question. Thus he will simply forego the profit if the price of the equity goes up and the buyer executes the contract but will not need to buy the stock at the higher price in order to sell it to the options buyer. What are calls and puts to the owner of an equity? In the case of selling calls it can be an extra source income when the stock price does not go up, a payment for selling a stock whose price has risen, or a means of offsetting loss if the price goes down.