How even Novices Can you Stock Options?
This is a general commentary on how- even if you just are an infrequent trader in stocks can benefit from options.
Let us assume you have analyzed and identified a group of 10 stocks in a sector. You can use your own stock choices and follow along.
Let us assume that out of the 10 you have say 5 that are absolutely overvalued ( but known names) and perhaps 3 that you feel are priced fairly.
The question is how can you use options to benefit?
CASE 1 High fliers you like but think the stocks are overpriced
Let us first consider the 5 High Fliers that tend to move inexplicably ( while you think the stock is really costly)
First Get a good feel for Support and Resistance on these stocks. I am assuming a bull market ( if it is a bear market or down trend you would use calls)
I prefer to use candle charts- as frankly they are the best for entry and exit decisions.
The idea now is to sell puts- at or below the support levels ( which basically means that you have an intention to own the stock if they were cheaper). I would prefer a 1 month time frame- and would not extend this to the next month.
The idea is if the stock holds the support- then you keep the premium ( well if you really do not want to buy the stock because it is overpriced- then why not make some money!)
Sure this takes margin etc- but it is fairly conservative. And for those of you who think selling puts is a dangerous idea let me make it clear from a risk perspective it is the same as Covered calls- which are somehow interpreted as being safe! Go ahead do your analysis and you will find out.
Now let us say you were exercised and you now got into the stock. Well let us understand this was a stock you would have wanted to buy- other than the high price part! Now you got it for a little less. You now can revisit the Support and resistance levels and sell calls- and now you have a covered call position- or if you have the capacity you can sell more puts at a lower strike- since the fundamental issue is that you like the stock and its prospects but you wanted the price basis to be lower. This is nothing but dollar ( or Rupee) Cost averaging- which all the guys on TV tout!
Case 2 Stocks you want to add and are convinced that they are reasonably priced.
This is something I would always suggest to anyone who wants to buy stock /shares in the normal way.
Let us do the same thing again- find support and resistance. Sell puts at the support and wait. If you dont get exercised you get premium and if you do get exercised you end up with the stock you wanted- but at a lower price ( because you now have the premium)
Now Some important things when you deal with options
1. DONT- please dont- buy options blindly. That is a fundamental mistake you need to avoid- it is not just the price of the option but there are underlying parameters that are invisible- that are absolutely critical ( Implied Volatility and Greek).
2. Historical volatilities can be calculated ( or if you trust the NSE data- get it from there)
3. Implied Volatilities can be computed by using the standard options calculators. Please use American Style exercise version.
4. YOU HAVE TO KNOW the option Greeks and should have an idea of your Position Greeks. Once you know that you will precisely be able to analyze what ifs
5. Remember if there is one thing that will kill you it is implied volatility. It either inflates or deflates the price- simply put you will end buying costlier options or selling Cheaper options- if the volatility come back to Normal- your calculations on breakeven/profit will be vastly altered.
6. It is frustrating not to have this data online even if it is a paid service- this is a massive disservice to the common investor.
7. The beauty of options is if used correctly- you can make money in an up, down or a sideways market. Alternatively since the stock futures market is robust- you can effectively construct equivalent positions- without every buying shares.
8. One more nuance point- dont make a determination that an option is costly or cheap just comparing it to historical volatility- what is very critical to make this judgement is to find out the PRECENTILE level of Implied volatility in comparision to historical volatilty. This is important when you are trading volatility skews. But that is for another day!
I made some progress on collecting date- but it will not be real time. Atleast I have something to go by rather than trade blindly. Another thing for pricing- use the MIBOR rate and please be careful about dividends- almost all the big names give out dividends- and if these are high- there are interesting ways you can make money right around the book closure time. Again- there are so many ways. but this means we all need to spread the knowledge- and knowledge is power.
This is a general commentary on how- even if you just are an infrequent trader in stocks can benefit from options.
Let us assume you have analyzed and identified a group of 10 stocks in a sector. You can use your own stock choices and follow along.
Let us assume that out of the 10 you have say 5 that are absolutely overvalued ( but known names) and perhaps 3 that you feel are priced fairly.
The question is how can you use options to benefit?
CASE 1 High fliers you like but think the stocks are overpriced
Let us first consider the 5 High Fliers that tend to move inexplicably ( while you think the stock is really costly)
First Get a good feel for Support and Resistance on these stocks. I am assuming a bull market ( if it is a bear market or down trend you would use calls)
I prefer to use candle charts- as frankly they are the best for entry and exit decisions.
The idea now is to sell puts- at or below the support levels ( which basically means that you have an intention to own the stock if they were cheaper). I would prefer a 1 month time frame- and would not extend this to the next month.
The idea is if the stock holds the support- then you keep the premium ( well if you really do not want to buy the stock because it is overpriced- then why not make some money!)
Sure this takes margin etc- but it is fairly conservative. And for those of you who think selling puts is a dangerous idea let me make it clear from a risk perspective it is the same as Covered calls- which are somehow interpreted as being safe! Go ahead do your analysis and you will find out.
Now let us say you were exercised and you now got into the stock. Well let us understand this was a stock you would have wanted to buy- other than the high price part! Now you got it for a little less. You now can revisit the Support and resistance levels and sell calls- and now you have a covered call position- or if you have the capacity you can sell more puts at a lower strike- since the fundamental issue is that you like the stock and its prospects but you wanted the price basis to be lower. This is nothing but dollar ( or Rupee) Cost averaging- which all the guys on TV tout!
Case 2 Stocks you want to add and are convinced that they are reasonably priced.
This is something I would always suggest to anyone who wants to buy stock /shares in the normal way.
Let us do the same thing again- find support and resistance. Sell puts at the support and wait. If you dont get exercised you get premium and if you do get exercised you end up with the stock you wanted- but at a lower price ( because you now have the premium)
Now Some important things when you deal with options
1. DONT- please dont- buy options blindly. That is a fundamental mistake you need to avoid- it is not just the price of the option but there are underlying parameters that are invisible- that are absolutely critical ( Implied Volatility and Greek).
2. Historical volatilities can be calculated ( or if you trust the NSE data- get it from there)
3. Implied Volatilities can be computed by using the standard options calculators. Please use American Style exercise version.
4. YOU HAVE TO KNOW the option Greeks and should have an idea of your Position Greeks. Once you know that you will precisely be able to analyze what ifs
5. Remember if there is one thing that will kill you it is implied volatility. It either inflates or deflates the price- simply put you will end buying costlier options or selling Cheaper options- if the volatility come back to Normal- your calculations on breakeven/profit will be vastly altered.
6. It is frustrating not to have this data online even if it is a paid service- this is a massive disservice to the common investor.
7. The beauty of options is if used correctly- you can make money in an up, down or a sideways market. Alternatively since the stock futures market is robust- you can effectively construct equivalent positions- without every buying shares.
8. One more nuance point- dont make a determination that an option is costly or cheap just comparing it to historical volatility- what is very critical to make this judgement is to find out the PRECENTILE level of Implied volatility in comparision to historical volatilty. This is important when you are trading volatility skews. But that is for another day!
I made some progress on collecting date- but it will not be real time. Atleast I have something to go by rather than trade blindly. Another thing for pricing- use the MIBOR rate and please be careful about dividends- almost all the big names give out dividends- and if these are high- there are interesting ways you can make money right around the book closure time. Again- there are so many ways. but this means we all need to spread the knowledge- and knowledge is power.
