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Option Investing

The Smart Profits Report: Issue #294
Thursday, March 23, 2006

Option Investing: The Hottest Ticket On Wall StreetBy Karim Rahemtulla
Chairman, Mt. Vernon Research

Is option investing going mainstream?

You’d better believe it. For a full day last week at the annual Investment U conference in Delray, FL, Mt. Vernon Research had center stage.

The feeling - much like today’s options market - was electric. More than 300 people were in attendance. They were riveted by the ins and outs of option investing. The options market may sound like arcane stuff, but many investors have become much more savvy about options and other so-called derivatives.

A few years ago, when I asked audience participants how many of them used options, fewer than 25% raised their hands. Last week, the number was more than half. That’s good news. And here’s why…

Options: More Investment Choices, Lower Costs

Options are THE new investment vehicle of choice. There are several important reasons why. And there are important consequences of this trend.

First, the reasons why: Learning about how to put options to use - not merely as a speculative tool - is becoming more common. Options are far more accessible today than they were even 10 years ago. There are more exchanges and more choices for companies that have options traded on their shares. In addition, investors are seeking ways to boost their returns without undue risk. And with the cost of trading options declining dramatically, many people who were on the fence have climbed into the arena. In fact, most brokerages charge the same base rate for options as they do for stocks. Many firms, like Fidelity and Ameritrade, are charging $1 or less for each option contract.

The consequences are all good. More exchanges mean more competition. That translates to a tighter bid/ask spread. Put another way, options players are getting better prices.

As more traders see the appeal of options, the price of trading will continue to decrease. I can see a day in the next five years when options trading will result in more stocks that offer options. Since volume dictates whether a company issues options on its stock, the growing appeal of the options market means more and more stocks will have options.

Options Exchange IPOs: Profit From The Middle Man

In the coming years, we will see more options created for ETFs, like the Gold ETF, and more options of foreign shares that trade on U.S. exchanges. This will allow for better diversification of risk. Right now, for example, fewer than 30% of stocks have long-term options, or LEAPS. I believe that LEAPS will be available on all shares of listed stocks in the S&P 500 and the Nasdaq 100 within the next five years. Investors will demand it.

Remember, options market makers are not the ones who worry about which stock has an option. They only care about liquidity and the ability to make money from an active market. For investors, the increase in options trading can result in a financial bonus…

Buying companies that specialize in options trading can also be a profitable venture. Last year, I recommended my subscribers and audience members at Investment U to buy shares of an IPO, International Securities Exchange (NYSE: ISE). It was “hot” and we were able to get in at $26 a share. Today, it’s trading at $42.

In the coming years, you will see an increasing number of options-related IPOs, from exchanges to brokerages that specialize in options. Look to them for profits by either buying the IPO or waiting for a major correction. I’ll be doing the same.

Good Trading,

Karim

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