Everywhere you turn today there seems to be so much information about stock options. Most of it telling you the virtues of investing in options and how you can make a lot of money risking very little. This article will focus on the risk involved and what you need to understand before you invest in options.
Options are a complicated investment. MOST of the time you will lose ALL of your money. Go ahead google it, you will find that most investors lose all of their money when they trade options.
What you need to know and they ain't telling you:
If you own options, you may not be able to sell it if there is not enough trading volume as it approaches expiration. The result: you lose all your money.
You can own call options and the stock goes higher, that's exactly what you want right? Not necessarily, if it doesn't go high enough, you lose all your money.
You own put options and the stock price goes lower-great right? Not necessarily , if it doesn't go low enough, you again lose all your money.
Here's a another head scratcher (apparently this is not a word). Generally speaking, options that trade enough contracts everyday for you to safely go in and out of are for stocks that have low volatility. The irony is that you need volatility to effectively trade options.
Let us look at what happens when you buy a stock for a second. Say you invest $10,000, the following may occur:
1. it goes up 5%, you have $10,500
2. it goes down 5%, you have $9,500
3. it stays the same, you have $10,000
4. it goes down 10%, you have $9,000.
5. it goes up 10%, you have $11,000.
With all things being equal, if you were to buy a call option and you reached your expiration date using the example above, you would most likely lose 100% of your money in the first 4 examples. Scary right? But that is how it really works.