Tag Archives | options education

Options Education: Replying to Questions

Today’s post continues the discussion of what is necessary for an options education to be useful for the student.

There are many questions I can use as an example, but I’ll choose a very recent submission.

Sally asked:

Can you explain how to calculate intrinsic value? How do you calculate time value and can time value be used in at the money and out of the money? Thank you.

Complete answer. But is it good enough?

The intrinsic value is the amount by which an option is in the money.
The time value is the portion of the option premium that is not intrinsic value.
Yes, at-the-money and out-of-the-money options have time value.

The information is correct. It is complete and answers the question. However, from my perspective this is not the question of an experienced trader. Therefore, there is the possibility that even the term ‘in the money’ may not be clearly understood. If taking the time to reply, shouldn’t the response satisfy the needs of the questioner? I believe so – the questioner’s needs come first.

Moving beyond that simple point, I know that an options education must fit the needs of the student. I get the feeling that too many ‘teachers’ are so full of themselves that the goal is to show students how smart they are, rather than fulfill the needs of the students. I believe in doing whatever it takes to help each individual learn the lesson. I believe that options are not for everyone. Some people lack the necessary skills or personality traits, or expect learning to be a cinch. It is easy for some, but most people must put in time and effort to find success as a trader.

Sufficient answer. Is it too much

I try to place myself in the position of the person asking the question and believe it’s better to assume less knowledge, rather than more.

I offered the following reply to the same question:


The intrinsic value of an option is calculated with a simple subtraction:

Call option: Stock price minus strike price = intrinsic value

Put option: Strike price minus stock price = intrinsic value.

If the result is zero, or negative, then the option has NO intrinsic value.

    Example 1:

    Stock is 34.

    The 30 call has an intrinsic value of 4 points or $400.
    The 25 call has an intrinsic value of $900.

The expiration date is not involved. All calls with a given strike price (on same underlying) have the same intrinsic value, regardless of expiration date.


Stock is 87.

The 90 put has an intrinsic value of 3 points or $300.

Time value = option price (the premium) minus intrinsic value

may consist of 100% intrinsic value with zero time value

Sufficient rocks

I don’t believe it can be wrong to supply the sufficient answer. If the person asking the question does not need all information, there is no harm done. However, others may eventually read the question and answer. For them, the reply must be sufficient. I am not recommending a complete reply, I am not suggesting that a tome be written.

There is no excuse for lazy answers. And this especially applies to those who take money from people in exchange for an education.

I believe a ‘graduate’ should:

  • Know how to make trade decisions – especially when under pressure
  • Understand the importance of risk management and position sizing (you cannot survive without them)
  • Be encouraged to return at any time, to ask additional questions.

And I do this at a price that should be much higher. Not just because it’s a bargain, but the low price incorrectly suggests that it’s not a high quality education.

Newcomers to the options universe are accustomed to paying thousands of dollars for 2-day classes. The possibility of spending a few hundred for a full year’s worth of quality lessons and discussion does not seem believable. But it is.

Take a look at Options for Rookie’s Premium. I offer a full refund within the first 30 days. Cost: $37/month.


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Options Education: What should it include?

Continuing the series about an options education, I received this comment:

I agree with some points and disagree with many others. As for Historical volatility and Implied volatility, the most common event is an earnings announcement for an individual stock. Historical might narrow before the event and implied will often jump just before the event. This doesn’t mean the options are mispriced. The worst beatings I’ve taken tend to be when selling high option premiums, when implied was higher than historical.

Hi Tiger

I’ve been there and done that. But this post talks only about buying options. I don’t mention selling strategies because novices are taught the ‘buy and pray’ approach. That’s the methods used by the hype artists whom I so despise. They ‘energize’ the students, and get them excited about leverage and how much can be made.

Trading is work. It can be fun, but no one should come away from lessons so energized by the thoughts of earning a quick fortune.

Those energized students go home and tell their friends about an exhilarating learning experience. Fantastic publicity. There is nothing better than an excited and eager student to tell others about the seminars. The student, who does not yet realize that he/she learned far too little to make any money, is touting the course for the hype artist teacher.

There is no incentive to present options in a true light. I try, but am not a TV talking head with a huge audience.

I would also tend to disagree packet #5. What some successful traders do is sell premium on some options and then put that money into buying OTM premium in specific instances. That goes hand in hand with packet #6. I might be tempted to start with packet #6 for novices, because risk management and right sizing of positions is probably more linked to the long term survival of novice option traders than predicting market direction, or seeking undervalued or overvalued options.

Risk and reward are often near a straight line with options. If an option position has a 80% chance of winning, there is often a 5-to-1 pay off for the opposite side that only wins 20% of the time. Not always true, but the options market is much more efficient now, than many years ago.

Agree about packet #6 and the importance of risk management. Just one minor point. I cannot teach risk management to someone before I show them what an option is and how it works. Risk management comes near the beginning of the education process. But it is not step one on day one.

When (packet #5) I said ‘do not buy OTM options,’ I was referring to not buying them as a speculative play. Beginners love to buy options and encouraged to do so. They especially grab options that cost very little cash – and they anticipate hitting a 10-bagger. That’s what the hype artists allow their novices to believe. When beginners are taught to buy OTM options and expect to beat the odds, they will blow up their accounts. It will not be a one day disaster, but a slow, steady decline until the money is gone.

I teach buying OTM options – BUT ONLY as insurance to limit losses.

Regarding the straight line payoff – I believe you are speaking to the experienced trader. The novice has no clue which options to buy. He/she does not know which options are over-priced and which are not, has no idea of how much to pay or how long to hold (all the way to expiration is the typical choice), etc. They are unaware of how changes in IV affect the price of the options they purchase. Even when the odds are reasonable (i.e., the option is priced fairly) the novice has much more to learn before placing his/her wager. And buying options is a wager (unless the trade is made as a hedge).

I’m not going to rehash the bit about technical analysis, but would suggest that all novices would do well to learn at least the basics of reading a bar and/or candlestick chart, so they can follow the commentary that typically dominates short term trading discussions. They won’t master the art any time soon. However, the basic basics can be taught in a hour or less and that is plenty for most novices to chew on. A few may take to it like ducks to water.


Regarding TA. Read a book or two? Sure. Practice making/reading basic charts? Yes. Try to recognize support and resistance to help guide trade decisions? Go for it.

However, that is very different from being encouraged to begin a trading career by reading charts as the method for knowing what’s going to happen in the market.

You are correct on every topic you mentioned. I agree with your comments. However, from my perspective those comments were removed from the context of the text, which is: “Rookies buy options. Rookies are encouraged to depend on charts. This is a bad practice. This is not a reasonable method for educating a beginner.”

Alternative strategies that offer better chances of success – that’s my approach. Offering the opinion (and evidence if needed) that it is almost impossible for the vast majority of people to predict market direction is a much saner approach. Anyone who takes the time to study technical analysis may find a talent for chart-reading. However, the more likely result is that TA is too difficult to use successfully (without a lot of experience)

Thanks for your input.

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That First Trade: An exciting time

Options education series, continued:

For some rookie traders, making that first trade using real money can be a psychological ordeal. There is no doubt that most beginners are anxious to trade, and many begin before they are ready. But there are also traders who live at the other end of the fear spectrum. They are careful people who want to be certain they understand enough about any activity before getting started.

Trading is personal. It requires some knowledge upfront. How much is the undecided question. Yesterday, I blogged about sufficient and insufficient knowledge. There is no ‘proper’ curriculum that the student must master because much depends on the needs/skills of the individual. However, one thing that must be understood is that the education process continues throughout a trading career.

Know who you are

Understanding your strengths and weaknesses is a big advantage. The problem is knowing which of those is important to the trader. That’s why education is so personal. Certain traits can destroy a trading career – impulsiveness, for example. This is very different from having the skill to make a good decision quickly – especially when under pressure.

If you are impulsive and must get started NOW, even if not ready, this does not have to turn out to be a poor decision. However, that impulsiveness cannot be given free rein. It must be controlled. If you trade a small position, understand the strategy, and avoid impulsive behavior at critical times (when making trade decisions), then the experience may be rewarding.

However, if that trait gets the better of you, don’t make the mistake of believing that you will be in control next time. This problem does not go away, and you may (eventually) require a coach or psychologist to find an answer.

One possibility is to lay out a detailed trade plan and update it frequently. That assures a plan will be ready and no impulsive decisions need be made. This requires using the plan and not making a spur-of-the-moment decision to go in an other direction.

Trading is not for everyone, and the inability to get over certain habits can doom a trading career.

Learn First, Trade Later

You never know how much you must understand before making that first trade. There is no test. However, if overwhelmed, stressed, or uncomfortable, exit the trade and understand that you are not yet ready.

NOTE: Making a profit does not mean that you are ready, and taking a loss does not suggest unpreparedness. Luck is always a factor when trading. This is a game of statistics and probabilities. Do not draw conclusions based on a few examples.

You are ready when you:
ready to trade

  • Know how to use the strategy being tested
  • Know whether gains and losses are open-ended, or limited
  • Can calculate the maximum profit and loss for the trade
  • Know how to establish a profit target, and have done so
  • Know how to establish a maximum loss
  • This is less than the maximum possible loss
  • It is the maximum acceptable loss
  • If that loss occurs, you have the discipline to exit the position and lock in that loss
  • Size the trade properly
    • The loss and profit limits are well within your comfort range
    • You do not have too much at risk. In other words, there will be no reason to panic
  • Understand that you may have to make a trade adjustment to manage risk
    • You do not have to be skilled at managing risk (yet)
    • You must understand that ‘fixing’ positions is part of trading

    If you believe the items on the checklist can be handled, then you are ready to begin trading. However, do not discontinue the education process. You have barely begun.


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    Educating an options trader

    Gaining a sufficient education

    The setup: A newbie to the options world is learning about options. He/she picks up certain pieces of information (only those specified) in one sitting or one lesson.

    Information packet #1

    Let’s assume that you understood this much:

    • If bullish, buying a call is appropriate
    • If bearish, buying a put is appropriate

    Education status: Let’s hope that no one believes this information is of much use. Trades made on the basis of this information are likely to result in a loss.

    Information packet #2

    • Options are not always reasonably priced
    • Sometimes the trader gets a bargain – increasing the odds of winning
    • Sometimes the trader pays too much – decreasing any chance to earn a profit
    • A reasonable estimate of the fair value of an option can be made

    Education status: The intelligent trader knows not to buy calls or puts based on a market bias, but is snot yet ready to begin trading.

    information packet #3
    Our trader finds a source that explains the basic idea of volatility. Not all the details, but enough to recognize how volatility affects option prices. Enough to recognize that implied volatility (IV) moves from high to low (significantly affecting option prices) in what appears to be a random path. Historical volatility (HV) for a stock is readily available.

    Education status:

    • Pay a reasonable price when buying options
    • Understanding the concept of HV and IV allows the trader to trade at more appropriate times and to avoid overpaying for options

    Education status: This is enough knowledge to get started – preferably with a paper-trading account. This is nowhere near sufficient, but the trader has a chance to make an intelligent, rather than a random, trade.

    The first ‘packet’ was more dangerous than helpful.
    The second offers a warning which alerts the trader to proceed with caution.
    The third gives the trader a fair chance to pay a reasonable price.
    This is enough to enter the game with virtual money.

    It is not sufficient. It offers no warning about risk or risk management. The trader stands a chance, albeit a small chance, to earn money.

    Information packet #4
    Prognostication: It is not easy to predict market direction. Most highly-paid, professional traders cannot do it consistently.

      Personal note: I do not understand why so many people suggest that a trader can learn technical analysis quickly, and with minor effort, and then use charts to predict market direction. Experts tell us that technical analysis is difficult to master, while the hype artists tell us it is a cinch.

      I do not understand why new traders are not immediately taught that being bullish does not mean a stock will move higher. Or that it’s crucial to buy the right options. Or that ‘technical analysis’ is neither easy to learn nor universally accepted.

    This information packet is seldom available. Students ‘learn’ that chart reading is easy to master. They believe that being bullish leads to easy profits. This harms most students by providing false confidence.

    The truth: Trading is difficult. Making money is not guaranteed. There is no reason to pay high prices for an education.

    Education status: Teaching beginners to rely on graphs is harmful. Learning that market prediction is often a waste of time makes a big difference by helping the trader face reality.

    Information packet #5

    • It is a bad idea to buy OTM options
    • Buying options requires good timing, as well as picking direction
    • Earning money when buying options is a difficult task. Not impossible, but difficult

    Education status: This is more than enough for most people to get started. Unfortunately, it is not the curriculum of many options educators.

    The trader who has been exposed to these five packets of information recognizes that the price paid for an option is important and has some idea of how to decide whether the price is reasonable. The newbie learns that there are many factors that go into the decision on buying options. This is more than many beginners get out of their courses.

    It is sufficient information. With an idea of when to buy, how much to pay, the importance of timing, the chances of success, the trader’s skill in using charts – a new trader can decide whether to go ahead and spend some time practicing this strategy, or whether to seek another.

    Personal note: Far too may ‘educators’ teach so little of what is sufficient and teach only enough to get the novice excited about using options. That works for the educator. That sells more courses and more lessons. The student soon learns that he/she does not know enough to trade effectively, neatly falling into the ‘more lessons’ trap of the instructor.

    Students should get sufficient information the first time. Each person learns at his/her own pace, and the time required varies with each person. It is unfair to offer the student too little and then send him/her out to trade.

    I’m doing what I can to combat that nonsense, but my efforts are apparently a well-kept secret.

    To learn more about my idea of teaching beginners to trade, visit Options for Rookies Premium.

    Information packet #6

    • It is mandatory to manage risk with care
    • Appropriate position size is step one in risk management
    • Hedging reduces risk

    Does packet #6 add anything of value?

    Yes. It completes the ‘sufficiency’ requirement. Enough to make a solid beginning. Lots of practice is required. Skills must be developed and honed, but the student has the background needed for success. Risk management is an essential ingredient of any trading course.

    An options education

    There are a bunch of well-qualified options instructors. However, some deliberately offer too little – hoping to sell more lessons. Others offer too little because they are not qualified to help traders find success.

    When it comes to decision making and the ability to choose trades wisely, too many novices are left to their own devices, instead of being taught the ropes by their teachers.

    How is the new trader to judge whom to trust? No beginner knows what it is that must be learned, and is forced to trust the teacher. The truth is that many cannot be trusted.

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    Iron Condors: Introduction to Risk Management 02

    Today’s video continues the introduction to risk management, especially as it is applies to trading iron condors. As you have no doubt noticed by now, I believe in detailed discussions.

    My primary job is to be certain that everyone who wants to come along on this ride learns at least enough about trading and risk management to give that person a good chance to succeed. The bottom line remains unchanged. Most people who try to earn good money from trading fail. Trading is not as simple of a task as many believe it is.

    It requires no skill to buy index funds and put them away forever (buy and hold) with the hope that the markets will cooperate and provide you with enough money to meet your future needs. It’s another to actively make trade decisions, including how to manage risk and minimize losses. This is not a simple task.

    That’s the reason I place so much emphasis on the details. If you make the attempt to earn money as a trader, I believe that the better you understand what you are doing and the decisions that must be made – then the better your chances of making good trade decisions. It is obviously my belief that good decisions are necessary for success.

    These videos move slowly, but my goal is not to complete a course in a few days and send you out to trade. It’s to do the best I can to give you a better chance to make it as a trader. If you understand the basics, then you will be prepared to tackle more advanced trading techniques and theories.

    These videos are targeted to traders who believe they still have much to learn. That should include almost everyone. Yet, these are definitely at the elementary level. If that sounds right to you, then welcome aboard.

    Introduction to risk management. Part 2

    13 minutes


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    Why pay when you can get it free?

    Judging by the ongoing comments of readers, I know that you appreciate the efforts that go into maintaining this Options for Rookies Blog. That the content is free makes it even better. It’s reasonable to ask why I would expect anyone to subscribe to Options for Rookies Premium.

    When I answer a question isn’t the answer the same, regardless of where the question originates? They are not the same. Because the questions come from Members, I pay extra attention to providing a reply that is more focused on education. For the newer options trader, that’s a big plus.

    For $37, Members receive a full month’s content. And the best part for you – is that the first month’s membership fee is fully refundable if you are not completely satisfied. All I ask is that you request that refund within 30 days.

    • Live meetings – available on video if you cannot attend
      • Answers to questions
      • Sometimes a short prepared talk gets the meeting started
      • Discussion of specific trades. These can be your trades, if you want to share them
      • Conversations are similar to that on a forum, except that the conversation is live
      • Four meetings per month, minimum
      • Separate sessions for newbie traders, as needed
    • Blog posts on various topics. Not every day
    • Regular forum for discussion. Members only
    • Occasional webinars
    • Occasional lessons – via video – as part of an options education

    The bottom line is that for a few dollars per hour, Gold Members get a chance to interact with me. My best skills are helping newer traders understand the concepts of using options and replying to questions so that you get a better understanding of some of the subtleties of options trading. If you are already a very experienced trader, I cannot help you become an expert trader. That’s the job of a mentor or coach.

    Members work in groups. This is not one on one mentoring, but it does not cost thousands of dollars per year. Options for Rookies Premium is not for everyone, but if you want guidance, if you want to participate in group discussions or talk about specific trades you get useful feedback.

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    Educating beginners: Where to start

    Education is an absolute necessity for traders and investors. However, deciding where to begin and what to include in the course of study is not so obvious.

    Assume you encounter someone who had never paid attention to the markets, but who comes to you seeking guidance. This may be a young person in his or her first job and has some spare cash for the first time. Or it may be someone who just realized that at age 50 it was past time to get started saving for retirement. Do you know what you would tell that person to do, or suggest how to get started?

    The reason behind today’s post is that I recently read a post written by one of my favorite bloggers. The advice given probably seems reasonable to many. But I felt the advice was very far removed from my reality, and that the entire topic deserves closer scrutiny.


    1) The advice that bothered me came from a recent post and suggested a new trader be given a crash course in technical analysis, with the goal being to learn to read charts and recognize specific patterns. I know that technicians can be very successful traders and that some have a special talent for reading charts and discerning something likely to occur. However, this is a difficult field of study, and there is no reason to believe that someone who is completely new to trading would have he slightest understanding of how to comprehend the data that goes into the chart and would have zero chance to understand the final charts.

    Despite the success stories, some people use charts – yet continue to lose money. It’s not the fault of the charts. Rather it’s the expectation that using charts makes trading simple.

    2) I found the following bit of advice in a 2006 blog post:

    All investors share the same goal. They want to get more money out of their investment than they put into it…investors have to decide how much risk they are willing to take and for how long.

    One choice for people who want a low-risk investment is the money market…

    This writer took the stance that the complete novice wants to know how to put money into a low-yield money market fund (Yields were higher five years ago than they are today). Would anyone really offer a brief description of a money market fund, stock, or bond – and then expect the new investor to make an investment decision based on that information? To me that is insulting to the person asking the question and also shows a lot of ignorance on the part of the person making the recommendation.

    3) I truly understand that there are numerous paths for the new investor, but the only one that makes sense to me is to invest any cash destined for the stock market into low fee index funds. It may be even better to avoid the stock market completely.

    I’d love to say that a professional financial planner is the correct path, but found that too many depend on modern portfolio theory and the idea of diversification to take care of risk. That may have been a reasonable approach last century, but it is a rather naive stance today.

    4) I believe that the best advice would be to bank the money and spend some time reading. I do understand that some beginner books are no better than trash, but there are volumes from which a patient reader can garner some useful advice. The truth is that this is a difficult undertaking. I’m thrilled that no one has ever asked that question of me.

    I believe it is easier to tell investors what NOT to do, rather than what to do. Of course that does nothing to solve the problems of the person asking the question. For example:

    a) Don’t buy front-end load mutual funds. [Don’t buy mutual funds is even better advice]


    Never invest in something you don’t understand. You need to be able to explain how an asset generates a profit, preferably in one or two short sentences. If you can’t, you are gambling, not investing.

    This quote, or something very similar has been uttered by many well known investor types. And it makes perfect sense. Still it does not tell the investor what to do with the cash on hand.

    Does anyone have a great suggestion for the person who knows nothing of stocks, bonds, or other investment choices, yet is in position to make the very first investment of his/her life? Where would you send that person and what should he/she try to learn.

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    Covered Calls: Bullish or Bearish?


    You said selling a covered call is bullish, I think it is bearish. By selling you are making a “bet” that the strike price is too high. Buying a call would be a bullish bet.


    Your perspective is somewhat unusual – I’m not saying it’s incorrect – just that it’s different.

    I also see that you don’t recognize that options can be used to hedge, or reduce the risk of owning an investment. To you, options are to be used only for speculation. You are free to use options that way, but you are losing out on some of the characteristics of options that makes them so special.

    I consider this discussion to be important to the options rookie who is looking for a solid options education.

    Without any market bias, these statements about a covered call position are all true:

    • The position is delta long
    • The position earns money when the stock moves higher
    • The position loses money when the stock moves lower
      • Those are NOT the characteristics of a bearish position.

        Profits are limited for the covered call writer

        • That is not bearish
        • It’s a trade-off. The stockholder collected a cash premium now in exchange for potential profits above the strike price later
        • Consider the trader who buys stock and sets a profit target. That’s a bullish trader
        • That’s exactly what the covered call writer does. He/she sets a sell price and collects a cash premium
        • A bearish trader would NOT own stock

        The wager

        Is the bet really that the strike price is too high?

        That is overly simplistic and tells me that you use options purely to speculate. By wring a covered call, the stockholder sells someone else the right to all profits above the strike price – for the lifetime of the option. In exchange he/she gets paid today.

        That’s not bearish. It is a ‘bird in the hand’ investing style. The trader takes the option premium now instead of possible profits later. It’s not a wager to be won or lost. It’s a trade. If the stock goes much higher, that’s a good result. The stockholder wins. From you speculative thinking, the stockholder loses. I do not understand how you can survive as a trader if you are not happy with a profit – just because you could have earned more money had you chosen a different strategy.

        I’m thrilled to write a covered call and be assigned an exercised notice. That’s a winning trade. More than that, it’s the best possible result – after I decided to write the covered call.

        The bullish bet

        Owning stock is a bullish bet. If the stock moves higher, the trader earns a profit.

        Buying a call option is a bullish bet. Yet, if the stock moves higher, there is no guarantee that the call owner will earn a profit. There may even be a significant loss.

        Owning a call may give the trader a chance to make money on a rally, but far too often the trader buys the wrong option (strike price too high) or pays too much for time premium (rapid time decay that hurts the option’s value when the stock price does not increase quickly enough).

        Leverage works both ways. An inexpensive call option can return a large profit, but it can also expire worthless, even when the stock has rallied.

        Buying at the money or out of the money calls is highly speculative, and it takes the right set of conditions to deliver a profit. If the calls are deep ITM, that’s a smarter play. However, I’m certain that’s not the idea you were suggesting.

        Thanks for sharing your thoughts.

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