| The Advantages of
Trading Options
Limited Risk (Option Buyers)
When buying options your risk is limited to the amount paid for the option (the premium) as well as brokerage. You cannot lose any more than this. The benefit is being able to choose how much you are prepared to risk. You can then structure a trade where the potential reward is several times the premium paid.
Time Decay (Option Writers)
Generally speaking the more time an option has before it expires the more expensive it will be. There is potentially more time for the market to make a move in your favour. The process of an option price falling in value due to the passing of time is called time decay. It is most noticeable in the last six weeks to expiry. Time decay is unfavourable for option buyers and favourable for option writers.
Option writers use time decay as an ally. Like an insurance underwriter you accept risk for a premium. If the market does not reach your risk point (exercise price) before the option expires you keep the premium. You can buy back the option at any time before expiry to close the trade. This strategy can have open ended risk so a risk management plan is mandatory.
Return
to articles list.
|
