For those new to Stocks and Options, we've written a little article on the difference between them.  Let’s first tackle the less complex investing vehicle, stocks.  Most of the world already knows, but in case you don’t, stocks are directional trading vehicles.  If we are long the stock, then we make money when the prices of the asset rises, and we lose capital as the underlying asset drops in price.  We can also sell a stock short in which the profit comes when the stock falls.  In any case when investing with stocks, the direction is what matters.  We don’t need to worry about market volatility or time.

So we all know that stocks are simple, directional investments, but what about options?  Well, trading options is actually trading 3 Dimensions…time, volatility and direction.  I guess this makes options three times more complex than stocks.  Now, let’s look at a trading example to compare the difference.  Look at this scenario:

What if Google moves up 25% in 2 years?  Well, those stock owners would have just made 25% by holding on to their investment all that time.  However, if an option trader held on to his Call options for 2 years, most likely there would be very little if any gain on the trade. 

We know why the stock holder made money, but why would the option buyer lose money?  Everyone thinks there is leverage in options, and it’s true, but in this case, the leverage didn’t work out for 2 reasons.  One, the asset took too long to move, so the option time value decayed.  Secondly, the asset moved up, causing its volatility level to fall, and this also helped the option price to move down.

So, hopefully you can see that in order to trade options, we really need to be educated.  Entry level option traders usually buy Calls and Puts, and they don’t understand why they lose money when the underlying asset goes they direction they are hoping.  Remember, when trading options, you are not trading a single dimension; you are really trading a 3 dimensional asset.

 

 

Alternative Trades to Simple Call or Put Directonial Trades

San Jose Options focuses on constructing trades with much lower risk than buying directional Calls and Puts.  Although Calls and Puts may occasionally produce tremendous returns, they are very risky and high stress to trade.  Imagine having a 1 million dollar position in Puts and the market goes up or vice versa.  Also, this type of trade requires the option trader to use Stops which usually just stop you from making money.

So in our course we do not trade or teach directional Calls and Puts.  This is very basic, very novice, and we do not believe in this strategy.  For more advanced spreads, please browse our web site and learn more about what we have to offer.

 

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