Online Options Trading

There are many complicated online options trading strategies available out there, and many people spend hundreds of hours looking for the perfect online options trading strategies to generate "guaranteed income." Most of these strategies work great when the markets are range bound--which they are most of the time. Then along comes the inevitable big rally or watershed decline and all of these people get hosed. For a period of years in the mid-1990s, a lot of traders and funds made a nice living selling naked puts, and many books started popping up on the shelves about "taxi-driving millionaires" who discovered this "amazing get rich quick" online options trading strategy. Then along came October 27, 1997.

The markets had been drifting down through October and many of the taxi drivers, as well as a few large funds with a few hundred million in assets, were busy selling naked puts. The brokers who worked with the funds started getting nervous because the positions had gone against the funds to the point where it wouldn't take much of a further decline to start forcing margin calls. The brokers, who didn't quite understand the strategy being used by the funds, started to place discreet calls to other traders asking what would happen "if the Dow dropped a couple of hundred points" over the next week or so? The answer was easy--these funds would be forced to dump their positions due to margin calls, and this would create tremendous downward selling pressure in the overall markets. The S&P 500 floor traders at the CME got wind of this and started prepping for the slaughter.

The Dow closed at 8034.65 on October 22, 1997. On October 24, the Dow closed at 7715.41, down 319.24 points. This started the round of forced margin calls after the close, which was on a Friday. The margin call selling would take place on Monday. The Dow opened Monday at 7633.14, down 82.27. Then the forced selling via the margin calls began . . . and the pit traders, who knew what was happening, simply stepped back and walked away from the bids. With no support in the markets, the Dow dropped quickly and closed at 7161.39, down 554.02 points on the day. By the time the online options trading closing bell rang on Monday, everyone who was selling online options trading naked puts for a living had lost a substantial amount of money. The online options trading funds that were involved not only lost all of the money under management; they ended up owing money to the online options trading brokers. Well, more correctly, the people who had invested in the online options trading fund lost all of their money, and ended up owing more than they had put into the online options trading fund. Many metaphors come to mind here, but I will pass as most of them are quite graphic nature. Once all of these guys were cleaned out, the markets were set to rally. The very next day the Dow closed at 7498.32, up 336.93 points on the day, and went on to rally steadily from there.

Ok, so how do I use online options trading? The only way I use online options trading is to use them as a means for owning a stock at a cheaper price. Due to the premium and time decay, I am very specific about the online options trading I buy. For example, I won't buy out of the money options while online options trading, as they are all premium and a sucker's game. Therefore, I want to go at least one strike in the money, if not more, in order to buy an option where the premium constitutes less than 30% of the overall purchase price. As I'm writing this in early 2005, the premium of options in online options trading is generally low, so I can usually buy options just one strike in the money to meet this criteria. In 1999 and 2000 online options trading premiums were at extremes, and I often had to go 5-10 strikes in the money to buy options that met my criteria. I remember when QCOM was at $250.00 before its infamous "run to a thousand" at the end of 1999. At the money call options were $45.00. In order to buy calls that were only 30% premium, I had to go nearly 15 strikes in the money.

The online options trading table represented in table 16-1 shows different strike prices and expiration months for GOOG. At the time this was taken, in early November, 2004, GOOG was trading at $191.67. If I am interested in buying a call on this stock, I'll start looking at the near month contracts that are in the money. Because online options trading GOOG is a higher priced, volatile stock, the online options trading premiums are going to be high--the higher the volatility, the higher the premium. In this case, I look at the Nov 180 calls which are 2 strikes in the money. The premium on these is still excessive, and I need to go down one more strike price, to the November 175 calls, to meet my criteria of the premium being less than 30% of the overall purchase price. The amateur online options trading trader in this case is going to buy the November 220 calls because they are so "cheap" at $2.55. Never mind they will expire worthless. For puts, I will first look at the November 200 puts, but they are too expensive. I look at the 210s and they are close but the 220s are better in regards to the amount of premium I want to pay. Remember, all I'm trying to do is buy (or short) the actual stock at a cheaper price. This means I don't want a lot of premium while online options trading. Looking at the next month out in December, these same online options trading strike prices jump up excessively in price, so I'll want to stay with the near month contracts and wait till expiration to roll over into December if I have to.

In contrast to online options trading GOOG, IBM is a more stable online options trading stock, and the premiums here aren't that high. With the stock trading at $91.20, I first look at the November 90s calls but they have too much premium. The 85s fit the bill nicely. On the put side, the first strike in the money, the 95s, work fine. Note that I could even go out to the next month, the December 95s, and only pay a little extra in premium. I like to focus on the near month online options trading contract in order to reduce premium. However, if the online options trading is set to expire in less than 2 weeks, then I will go ahead and buy the next month out, though I may have to go even deeper in the money. A few more notes of interest on online options trading contracts:

• 1 Option Contract = 100 shares of stock
• Buy 10 GOOG Nov 190 Calls at $12.00, and that will cost $12,000
• To buy an equivalent 1000 shares of the stock at $190 would cost $190,000
• If GOOG rallies 10 points, these options will move about 6 points. This depends how far in the money they are. The further they are in the money, the more they will move "dollar for dollar" with the underlying stock.
• Sell the 10 GOOG calls at $18.00 ($18,000) and pocket $6,000
• Max loss on this trade is the option's cost, $12,000