There is quite a difference between buying stocks outright and purchasing
stock options. When you purchase a stock option, you are betting on the
direction of the stock price. However, stock option trading has very different
characteristics than purchasing stocks and there is a lot of terminology and
tricks of the trade that a new stock option trader should learn in order to
successfully trade stock options.
There are two types of stock options - calls and puts. Purchasing a call
option means that you have the right (however, not the obligation) to purchase
the stock at the strike price at any time before your stock option expires. When
you purchase a put option, you have the right (however, again not the
obligation) to sell the stock at the strike price any time before the expiry
date of the stock option. A call option is purchased when you expect the price
of the stock to inflate, a put option when you expect the price to deflate.
The main difference between buying stocks compared to stock options is that
when you purchase a stock, you own a piece of the company whereas when you
purchase a stock option, you simply have a contract that allows you to buy and
sell the stock at a specific price before the option expires. There are always
two sides for every option transaction - a buyer and a seller so for each
option, either call or put that you purchase, there is someone selling it.
Stock option trading can be compared to betting on the racetrack where you
are betting against other people. Buying stocks is compared to gambling in the
casino, where you bet against the house. Trading options is a 'zero-sum game',
which means that the option buyers gain equals the sellers loss and vice versa -
they are mirror images of each other so there is no positive or negative cost
involved.
Stock option trading can be a very lucrative game and many stock option
traders use options as part of their larger strategy based on a selection of
stocks. It's important that if you want to begin stock option trading that you
understand the ins and outs of the market, the stocks and stock option trading
before leaping in head first. There's a lot to do with stock option trading and
you can be quite successful if you take the time to learn these skills as well
as research the company and stock history of the stock and company that you are
looking to purchase stock option in.
