What is Options Trading?
Last updated on January 13th, 2017
When it comes to investing in the stock market, most people think you need to have access to large sums of money to get involved.
What most people don’t know, is that there are products out there that let you become active in Wall Street with as little as few thousand dollars.
Instead of buying the shares of a stock, which can take a large amount of capital, traders can also buy and sell stock options.
Stock options give a trader control of a stock for a set amount of time for a fraction of the cost. If you aren’t involved in swing trading the options markets then you are missing out on a very lucrative segment of the stock market.
Not familiar with how a call or a put option works? Let’s walk through the basics.
What is an option?
An option is a contract between two people to buy and sell stock at a fixed price over a given period of time.
An option is a derivative, which means its value is derived from the value of the stock. The difference between the shares of stock and the option is the stock option is only good for a set amount of time.
Options can be viewed like an insurance policy.
To insure your car, you pay a monthly fee and if damage occurs to your car within the month the insurance company will fix the car. If no damage is done to your car within the month the insurance company keeps your monthly premium that you paid.
Well, an option works in a similar way.
Traders pay for the right to control the stock for a set amount of time but if the stock does not move in their favor before time runs out then they lose the premium paid for the option.
We use call options to control the upside in a stock and put options to control the downside in a stock’s movement.
How Do I Find The Best Stock Option Candidates?
We want to trade the names that move best over time. Volatility is our friend here as we are looking to be active swing traders instead of taking a long term approach.
One of my favorite searches is to look for the stocks that have the highest options volume. I also like to focus on the high flying names like Apple and Google.
While these stocks tend to be pricey, they are pricey for a reason. They are popular companies that produce great products which people want. As a result, their stock prices move great as well.
By playing the options on these stocks, we are able to control the price of the stock for a fraction of the cost.
This really opens up the door for the smaller retail trader to get involved with these high priced names.
Type Of Trading Setup Criteria
We want to make sure we are taking high probability trades and we do this by using a system that puts the odds in our favor.
Using a system like we use with our Options Fast Track program, we are easily able to identify when a stock is ready to move.
One of the primary tools that we use to identify these moves is through the use of range charts. By charting the price of a stock using range intervals, we are able to separate the good moves from the noisy false breakouts.
Instead of charting a stock’s price action based on a set amount of time, like a daily chart for example, we are instead waiting for price to move a set amount before the chart prints a bar or candle.
For example, if we were looking at a range chart of 6 on Apple, then the chart will only print a bar when Apple moves $6 from high to low.
This has nothing to do with time. It could take 5 minutes or 5 hours.
We also use dynamic targets and stops on our trades which allow us to stay fine tuned to current market conditions. This means we will be looking for different size setups depending on how active the current market is. We use an exact formula that tells us where our targets and stops should be so it takes any guess work out of the equation.
There are many different options trading systems out there that you can use.
The key is to find one that puts the odds in your favor and also in doing so makes it very easy to identify setups.
Ideally you will want to trade a system that prints a road map on the charts for you. This will make life easier for you when in live market conditions.
Below, you will see an example of how we use the Active Swing Trader to print the road map that we follow every day.
Do I Use Call Or Put Options?
While there are a number of different ways to play these setups, we will often time look to use the front month options. As a starting point we use calls when expecting a bullish move and puts when expecting a bearish move in the stock or ETF.
There are other factors that come into play when deciding which options strategy is best to use. We cover these factors in detail as part of the Options Fast Track program that is unique to Netpicks.
Getting Started Trading Stock Options
The best place to start is to find a system and a trade coach that you can lean on.
First, the system is most important because it will give you the road map that will tell you where to get in and where to get out. Most people let their emotions effect their trading decisions, which can lead to very inconsistent results.
Instead of trading off a hunch or the latest hot tip, we instead base our trading decisions off of a system that gives us a defined edge.
It is also just as important to use a trade coach that can help you along the way as you go through the initial learning curve.
Working with someone that understands what it takes to become a profitable trader will save you time and money. Having that coach there to help you stay accountable to your system and to your rules will help you become more disciplined, which is an area where most traders struggle.
Make sure you are working with a coach that is live in the markets each day with their own funds.
This will also give you someone to bounce new ideas off which can be extremely valuable as you evolve as a trader.