Definition
Options trading allows you to purchase or sell stocks, ETFs, and other securities at a set price and on a certain date. The right to acquire a security is referred to as a ‘Call,’ whilst the right to sell is referred to as a ‘Put.’ An option has a specified life and an expiration date, after which its value is settled amongst shareholders and the Option comes to an end. All else being equal, the price of an option tends to drop with time, making it a wasting asset.
While options trading is much more difficult than stock trading, it can help you make higher gains if the price of the security rises. That is because with an options contract, you do not have to pay the whole amount for the security. Similarly, options trading can limit your losses if the price of the security falls, which is referred to as hedging.
Difference between Stock & Option
A stock is an ownership stake in a company that may be traded on an exchange. A stock has an indefinite life and trades for as long as a firm exists and is publicly traded. An option, on the other hand, has a set life and is essentially a contract with other investors that allows you to bet and predict or forecast on the way you believe the price of a stock will go.
Stocks are fit for beginners and long-term investors, and is an equity investment. The fee and taxes accruing off stocks are probably the only drawback. Whereas, Options trading should only be pursued by active traders with flexibility in their trading habits. It is a derivative investment, which requires additional effort, has comparatively greater risk, and costs more.
Why Trade in Options?
The unpredictability of the options often is its most enticing factor. When you are interested for a much more methodical approach to trading, one with a lower commitment need and greater flexibility in terms of timing or negative risks, Options trading could be just your solution. The related period of time for which you are holding your stake is essentially reduced with options, rendering them more appealing to traders who purchase and sell on a frequent basis.
Options trading is high risk yet high yielding investment opportunity.
Advantages of Options Trading
- Options may provide very significant profits in a very short period of time by leveraging a relatively modest quantity of money into many times its worth. Options allow you to double your money much faster.
- Options are liquid, which means they may be exchanged for cash at any moment the market is active.
- Longer-term options may qualify for lower long-term capital gains tax rates for some options.
- Options commissions are discounted by many major online brokers, and a few firms even enable you to trade options for free.
- When you wish to restrict your risk, options might be a better option.
- For an experienced investor, options trading may be a profitable strategy.
Choosing whether to invest in stocks or options is totally a personal decision depending on your investment style. Those who prefer an active investment strategy and enjoy watching the market may find choices interesting.