The simplest options strategy for
John has been writing about the auto business and investing for over 20 years, and for The Motley Fool since Do options scare you? They scare a lot of folks.
Simple Option Strategies
Stock options -- the kind that are traded on exchanges -- have acquired a reputation for being dangerous and unpredictable, a thing that sensible investors should file in the same circular folder with ideas like "day trading" and "putting all of your money in a big pile and the simplest options strategy for it on fire.
But I think options' bad rep is overblown.
By Lucas Downey Updated May 29, Traders often jump into trading options with little understanding of the options strategies that are available to them.
With a little knowledge and care, options can be very useful tools -- even for conservative investors. A helpful tool in uncertain times Options are contracts that allow but don't require you to buy or sell something at a specific price on or before a specific date. Most investors will deal with standardized, exchange-traded options on stocks or indexes, which come in two basic flavors: puts and calls.
A call allows you to buy or "call away" a stock at a particular price, and a put allows you to sell it -- at your option hence the name.
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You can buy puts and calls through just about any discount broker, or you can create and sell them -- a process called "writing" options. Either way, it's usually only slightly more complicated than buying a stock -- you'll have no trouble figuring it out.
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The options you buy or sell are good for a set time period, after which they simply expire if unused. Those are the basics. Sounds simple, doesn't it? But if you think about it for a minute, you can see a whole range of possibilities. At the simplest level, options are a low-cost way to take a position if you think a big move is coming.
This simple strategy boosts your profits with minimal risk. Really.
Think banks are in for another round of troublebut don't want the risk of a big short position? Buying calls lets you get some of that upside without a huge up-front cash commitment. But we're the simplest options strategy for scratching the surface.
How about a low-risk really way to boost the returns from your dividend stocks in times when the market doesn't seem to be going anywhere? Like, say, now?
An options strategy for the rest of us, right now We all know that a stock that pays a good solid dividend through good times and bad is a great thing to have. But stocks like these don't tend to be big growers, which is why I've started using a low-risk options strategy called writing covered calls to boost my returns.
This is a simple strategy that any investor can use, even in an IRA account. The nuts and bolts of covered calls The first step is to choose a suitable stock, a company you like, but not one that's likely to see major growth.
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This can be a stock that you already own, or you can buy one. You think that while it's unlikely to nosedive, it's not going to go to the moon, either -- that's not why you bought it.
How could this play out? There are three possibilities: The stock goes way up. The stock takes a nosedive.
That's a risk with any stock. The stock price stays more or less flat. You held a stable stock during a time of market uncertainty, and got some extra cash via those calls and maybe a dividend, too. The upshot: An incremental advantage As you can see, the biggest risk with a covered call strategy is that you'll miss some of the upside if the stock suddenly takes off. But you'll still profit -- and if you think a stock is likely to take off, it's not a candidate for this strategy.
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Writing covered calls isn't going to make you a fortune overnight. Wouldn't you like to own a stock like that? Stay tuned throughout our Better Investor series and get the advice you need to succeed with your investments. Click back to the series intro for links to the entire series.
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