Options Education for Individual Investors

I'm in a strange mood, so I'll get on my soapbox again.

Since
the year 2000, I’ve turned my attention to educating individual investors about
the benefits of using option strategies as part of their trading arsenals.

I don't tout expensive seminars, nor is my purpose to promise that trading
options will produce instant wealth.  The
infomercials you see on TV or the full-page newspapers ads you read promise
much.  But common sense tells you they
cannot deliver as promised.

My
philosophy on adopting option strategies is that it's worthwhile because it provides two essential
benefits when investing:

  • Reduced risk. 
    In real world terminology, that means if unforeseen events occur
    (such as the year 2008 or the bursting of the technology bubble a few
    years earlier), your portfolio is protected against significant losses.  You can use options as an insurance
    policy, in which you establish your own ‘deductible.’

  • Fewer and smaller losses.  As a corollary, you will have more
    winning trades, but the gains are not unlimited.

Why
doesn’t everyone use options? 
Because
there is a downside.  If you adopt the
strategies that I recommend, then it’s true that losses are limited.  But in return, profits are also limited.  Here’s the key: profits are not minimal,
and you can earn excellent, but limited, returns.  Some investors have
the dream of finding stocks that double (quickly) and then double again and
again.  Most of us realize that those
days are over, but if that’s your dream – if you are seeking a huge profit when
investing, then the basic option strategies that I love (and use for my
personal trading) are not for you.  You
can use options to gamble, but I prefer to discourage that.  If that’s your goal, learn about using options from someone who
touts those gambling, high risk methods.

The
basis for my website, this blog 
and my latest book, The Rookie’s Guide to Options, is to educate investors on
how to use options conservatively – and that means to reduce risk and increase
the probability of earning money – when compared with buy and hold investing. 

If you already bought into the hype of those infomercials, this blog may not be exciting enough for you because there are no get rich quick schemes. I offer education.  I’ll teach you to understand how options work
and how to make intelligent trading decisions when using options.  I’ll carefully explain how to
monitor the position and how to manage risk. 
I believe in detailed explanations so that you understand and can learn how options work for yourselves.  You don’t want to be dependent on someone
else to make specific investment decisions or recommendations, do you? 

I
believe that risk management is the key to success.  If you make your primary investing goal the
elimination of large losses, then your chances of success are excellent.  The steady profits, coupled with small losses,
will provide for your financial success. 
But disasters must be avoided. 

I
have four rules for investors, and it’s important to use them in this sequence:

  • First: Don't go broke.  Protect your assets

  • Next: Make money

  • Then: Build wealth

  • Always: Never forget the first rule

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4 Responses to Options Education for Individual Investors

  1. Tyler 05/05/2009 at 1:57 PM #

    Mark,
    Just finished your Options for Rookies book and wanted to let you know I thoroughly enjoyed it. I did have one clarification question in regards to how dividends affect an options price. On p. 92 you use the example of a stock trading @ $22, getting ready to pay a $.40 dividend. The long Oct 20 call was trading at or near parity ($2.00).
    If the next day the stock drops to $21.60 (as a result of the dividend), you mentioned the call will drop in price as well.
    I had thought that dividends were already an input into option pricing models, which means the $.40 dividend should already be priced in the call so that it doesn’t automatically drop after the dividend. What am I missing? Thanks!

  2. Mark Wolfinger 05/05/2009 at 2:34 PM #

    Sometimes it’s right for the call owner to exercise his/her option in time to collect the dividend. This is one of those situations.
    The day before the stock goes ex-dividend, if a call option has a delta of 100 and if the option has zero time premium (the option’s price is its intrinisc value), then this is an option that’s not supposed to be an option any longer. By that I mean that it’s necessary to exercsie the option so that it’s owner can receive the dividend. Otherwise money is lost.
    To verify that exercising is correct, calculate the cost to carry the stock (interest cost to use cash to pay for stock) from exercsie date through expiration date. Exercise if the previous conditions are met and also when the cost to carry is sufficiently less than the dividend to make it worth the effort.
    When it’s not right to exercsie for the dividend, then the situation you describe – where the option price has decreased overnight – will not occur. the only difference in the option price will be one day’s time decay, if the stock opens ex-dividend and unchanged from the previous days close (that means yesterday’s close, less the dividend).

  3. GMG 05/05/2009 at 3:37 PM #

    Mark,
    I understand your concerns. If it makes you feel better, this blog has been a world of help to me personally. April/May was my first month trading an IC, and I can already pick out several “mistakes” I would have made if I hadn’t read your articles. Using pre-insurance was a key reason that I expect to end up with a (meager) profit. The April rally would have stopped me out long ago without those extra calls I bought. Also, learning to stay in my comfort zone, to re-evaluate the trade each day, and most importantly to let those last few nickels go have all been very helpful concepts for my first trade.
    In short, I may never be a billionaire trading options, but after following your blog I feel pretty confident I’m not going to lose my shirt either.
    So thanks!

  4. Mark Wolfinger 05/05/2009 at 5:07 PM #

    Thanks. Yes, that makes me smile.
    Continued success.