Advertisement
Online Test Banks
Score higher
See Online Test Banks
eLearning
Learning anything is easy
Browse Online Courses
Mobile Apps
Learning on the go
Explore Mobile Apps
Dummies Store
Shop for books and more
Start Shopping

Leverage a Position while Day Trading in Options Markets

When you are day trading, an option gives you the right, but not the obligation, to buy or sell a stock or other item at a set price when the contract expires.

A call option gives you the right to buy, so you would buy a call if you think the underlying asset is going up. A put option gives you the right to sell, so you would buy a put if you think the underlying asset is going down.

By trading an option, you get exposure to changes in the price of the underlying security without actually buying the security itself. That’s the source of the leverage in the market.

A day trader can use options to get an exposure to price changes in a stock for a lot less money than buying the stock itself would cost. Suppose a call option is deeply in-the-money, meaning that its strike price (the price at which you would buy the stock if you exercised the option) is far below the current stock price.

In this event, the obvious thing to do is to set option price at the difference between the current stock price and the strike price, which is more or less what happens. When the stock price changes, the option price changes by almost exactly the same amount, enabling you to buy the price performance of the stock at a discount, with the discount being the strike price of the option.

As an example of the performance-boosting leverage from this strategy, imagine that a trader buys call options with an exercise price of $10 on a stock trading at $25. The option price changes the same amount that the stock price does, but the call holder gets a greater percentage return than the stock holder.

What happens to the option value when the stock price changes?
What happens to the option value when the stock price changes?
blog comments powered by Disqus
Advertisement
Advertisement

Inside Dummies.com

Dummies.com Sweepstakes

Win an iPad Mini. Enter to win now!