Options Trading for Beginners: Strategies for Getting Started

Make money on options for a beginner. How to Trade Options: A Beginner’s Guide to the Risks (and Rewards)

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2 Options Trading Strategies Beginners Can Use

Image source: Getty Images. Whether you're a bull, bear, or you have a neutral outlook on the stock market, there are ways to put the power of options to work for you.

And, you don't need to be an investment genius to do it. Here are two basic strategies that you can use to generate income, protect your capital, and profit from volatility.

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Covered calls can generate income and limit your losses Selling covered calls is perhaps the most basic options strategy there is. Essentially, you are selling someone else the right to buy stock from you for a certain extra income tips at any time before a specified date.

How to Trade Options: A Beginner’s Guide to the Risks (and Rewards)

The best way to describe this is through an example. There are a few different ways that this trade could play out: 1. You get to keep that income which helps to lessen your loss, the option expires worthless, and you get to repeat the process.

This would be the best-case scenario. Not only would you be sitting on a nice gain with the stock, but you get the premium from selling the option added to your gains.

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  • Option buyers are charged an amount called a "premium" by the sellers for such a right.
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And, you are free to sell another option on your stock. The risk, however, is missing out on gains if the stock price goes through the roof.

Advice For The Beginning Options Trader

The stock price doesn't move at all -- it expires at the same price as it was when you sold the covered call. From an income standpoint, this is a good outcome.

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The option you sold expires worthless, and since you still own the stock, you're free to repeat the process. In a nutshell, a covered call allows you to generate some income and provides some degree of downside protection, in exchange for giving up some of your potential for share price gains.

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In-the-money calls as a stock replacement Option prices have two components -- intrinsic value and time value. Intrinsic value is the amount of money that an options contract would be worth if it expired right now.

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Time value is the premium you pay for what could happen before expiration. As your options get deeper in the money, the time value fades away and intrinsic value makes up most of the option price.

Options Trading Strategies: A Guide for Beginners

Therefore, you don't have to pay a time premium to buy a deep-in-the-money option, and it can be used in place of owning a stock. Let's say that I want to buy shares of Amazon.

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In a way, this is like buying shares on margin, but you don't have to pay margin interest, which is generally far more than the time value you'll pay. As unlikely as it is, it's certainly possible.

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  • However, it is not that easy.
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  • The premium to be made in volatile stocks that are hated by the market can be huge too, dwarfing the income received by your average dividend.
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  • Whether that means a full-time income or supplementing an income, the idea of doing that from home in less than a few hours a day is exciting to think about.

Using options as stock replacement certainly has its perks, but at the cost of more risk. Start off conservative As a final thought, it is admittedly very easy to lose money in options if you don't know what you're doing. Therefore, it's important to start out slow.

Maybe buy one deep-in-the-money call option on a stock you'd like to own, and then use it to observe the pricing dynamics of options and get a good feel for how a trade like this plays out over time. Or, maybe sell a far out-of-the-money covered call on one of your current holdings.

Options Trading for Beginners: Strategies for Getting Started

It won't generate a ton of income, but the point is to learn. The bottom line is that you can read about options until make money on options for a beginner eyes cross, but there's no substitute for real-world experience.

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So, if you do decide to add options to your investment toolkit, it's important to do so slowly. Motley Fool Returns.