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Trading Options 101
The Smart Profits Report: Issue #192
Wednesday, March 16, 2005
Trading Options 101: An Options Secret From a 20-Year Trading Veteran
By Karim Rahemtulla
Investment Director, Mt. Vernon Research
I often run into people who don’t participate in options because of fear. This past week I was in Delray Beach, FL, speaking at Investment U and many people approached me with this sentiment. The fear is not so much about the options strategies themselves, but the actual physical trading of options.
After all, there is a whole new set of terminology - contracts, expiration, Black-Scholes, premiums, puts, calls, bull spreads, collars, straddles, etc. - and it can be overwhelming.
I recall when I first delved into the options markets head first, a decade ago. I had the same apprehensions about learning something new and different - I mean, I was dealing with hard-earned REAL money. No paper-trading going on, just real trading.
I was serious about launching a trading service. And the only way I’d continue to put money on the line - mine or anyone else’s - was if I learned options by actually trading them. I knew that I had better be willing to put my money where my mouth - er, my pen - was.
Options 101: Advice From a Guy Named Herb
I looked at the books that were available and gleaned a little bit here and little bit there. For the most part the books were technical and boring. Granted, I had a good education with a master’s degree in business, so I had the right background. But it was still basically gobbledygook that most people, including myself, would not have the patience to wade through.
Instead, I turned to two sources for experience and advice…
The first was the actual options section of the Series 7 test that stockbrokers must pass in order to become brokers. That was helpful because it explained much about options strategy and terminology in a format that was conducive to those seeking a broad overview of the topic - but quickly.
The second source was an old, grizzled options trader named Herb.
Herb had been trading options for more than two decades and he was happy to explain the nuances of options trading that were not found in any school… but the school of hard knocks.
Much of that advice can be found weekly in the Smart Profits Report… but here’s the best advice old Herb ever gave me on options…
A Simple, Actionable Secret for Options Traders
Trade…
It was the best way to get my feet wet and the price was quite low. You don’t have to start with a million bucks, he said. You can buy one contract that is way out of the money and you might spend $50 total, just to understand the dynamics.
And if you want to do a covered call, start out with 100 shares of a cheap $2 stock and trade the $2.50 options - maybe put $300 at risk to understand the strategy. (It was the best $300 I ever spent.)
Today, I would tell you the same thing. You can paper trade all you want, but until you get your feet wet - even with the smallest trade - you will never get the feel for what options really are and how they work.
So, if you are pondering whether you should "try" options, my advice is to take it seriously and spend a little bit of money for a lot of education. Win or lose, it will be the best money you will ever spend in the market. And, who knows, it could be the beginning of a great new relationship between you and your money!
Good trading,
Karim Rahemtulla
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Today’s Smart Profits Cribsheet
- Check out the Smart Profits Glossary for definitions of terms such as "bull spread" or "Black-Scholes" found in today’s article.
- For more on option trading, check out Smart Profits #292, Buying Options: Like Owning a House Without Monthly Payments.
Related Articles:
- Maximum Fear: How to Turn "Maximum Fear" Into Maximum Profits
- Basic Trading Rules: The Four Rules of All "Smart Money"
- Market Maker Downtime: How to Make $1,000 On a Slow Day In the Options Pit
