Question for the smart guys

sorry about that other fake post

quick version.....

 

an option is a security that derives its value from an underlying asset. if you write (sell) an option than you have the obligation to the buyer. If you buy an option then you have the right to make the seller meet his obligation.

 

Puts and calls are opposites, a July WMT call at 45 means that the buyer has the right to buy the stock at $45 up until expiration (saturday following the 3rd Friday in July, don't ask). The seller must sell WMT if the buyer asks that he does. The seller gets a premium at the time he sells the call.

 

A put gives the holder the right to sell the asset to someone else at a specific price. So a July WMT put at 45 gives you the right to sell at $45 before expiration.

 

There are also sorts of ways to combine these positions to form different profit curves. I am not going to explain that but pick up a derivatives book before you try to use these.

Option

In general: right to buy or sell property that is granted in exchange for an agreed upon sum. If the right is not exercised after a specified period, the option expires and the option buyer forfeits the money. Securities: securities transaction agreement tied to stocks, commodities, currencies, or stock indexes. Options are traded on many exchanges.

1. a Call Option gives its buyer the right to buy 100 shares of the underlying security at a fixed price before a specified date in the future-usually three, six, or nine months. For this right, the call option buyer pays the call option seller, called the writer, a fee called a Premium, which is forfeited if the buyer does not exercise the option before the agreed-upon date. A call buyer therefore speculates that the price of the underlying shares will rise within the specified time period. For example, a call option on 100 shares of XYZ stock may grant its buyer the right to buy those shares at $100 apiece anytime in the next three months. To buy that option, the buyer may have to pay a premium of $2 a share, or $200. If at the time of the option contract XYZ is selling for $95 a share, the option buyer will profit if XYZ's stock price rises. If XYZ shoots up to $120 a share in two months, for example, the option buyer can Exercise his or her option to buy 100 shares of the stock at $100 and then sell the shares for $120 each, keeping the difference as profit (minus the $2 premium per share). On the other hand, if XYZ drops below $95 and stays there for three months, at the end of that time the call option will expire and the call buyer will receive no return on the $2 a share investment premium of $200.

2. The opposite of a call option is a Put Option which gives its buyer the right to sell a specified number of shares of a stock at a particular price within a specified time period. Put buyers expect the price of the underlying stock to fall. Someone who thinks XYZ's stock price will fall might buy a three-month XYZ put for 100 shares at $100 apiece and pay a premium of $2. If XYZ falls to $80 a share, the put buyer can then exercise his or her right to sell 100 XYZ shares at $100. The buyer will first purchase 100 shares at $80 each and then sell them to the put option seller (writer) at $100 each, thereby making a profit of $18 a share (the $20 a share profit minus the $2 a share cost of the option premium).

In practice, most call and put options are rarely exercised. Instead, investors buy and sell options before expiration, trading on the rise and fall of premium prices. Because an option buyer must put up only a small amount of money (the premium) to control a large amount of stock, options trading provides a great deal of Leverage and can prove immensely profitable. Options traders can write either covered options, in which they own the underlying security, or far riskier naked options, for which they do not own the underlying security. Often, options traders lose many premiums on unsuccessful trades before they make a very profitable trade. More sophisticated traders combine various call and put options in Spread and Straddle positions. Their profits or losses result from the narrowing or widening of spreads between option prices.

thanks fellas

I'm not going to mess with them.  I just wanted to kind of understand what you guys were talking about so i can follow your conversations.  Thanks again

 

Don't even play them until you thoroughly understand them. Like WSC says, they are like crack, especially shit like index options (OEX - big in the 80's when I got hooked along with currency options in Philly - anyone remember the Louvre and Plaza Accords? ).

 

Forget about going uncovered on either side unless you are one very rich guy as the liability is virtually limitless (except on the put side but if the underlying tanks, it'll feel limitless). 

 

This is what you are up against:  returns on the S&P are thought to be leptokurtotic (basically a normal distribution with longer tails) so extreme events should occur only once in say, a thousand years.  The evidence is that they can and have occurred several times in ONE year.  Does that mean the returns distribution model is wrong?  Actually when you're looking at a six figure loss because you're naked on some options, you don't care. 

 

Some good reference books on basic options are by Lawrence MacMillan.

Options as a strategic Investment

The Option Strategist

 

 

 

Forgot to add the fundamental pricing model for all options is called tbe Black-Scholes model but nowadays there are various extensions to reflect the real world  

 

An oversimplification:

If you think the underlying is going up, you want to be long calls [limited risk, unlimited reward] or short puts [unlimited risk, limited reward].

 

If it's going down, you want to be long puts [limited risk, limited reward - max if it goes to zero] or short calls [unlimited risk, limited reward].