Welcome to our Options Trading Tutorial. Options trading is all about understanding leverage and trying to get the highest return investments to pay out in the shortest amount of time. You'll find that in this tutorial we delve into other related topics where leverage is important in order to improve your understanding of why options trading in most cases offers a better trading experience than other forms of trading.

Find out more about:
Options Trading Basics | Call Options | Put Options | Carry Trade | Inflation Investments | Option Brokers | Making Money on Options
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Wednesday, May 12, 2010

How Options Trading Is Like New England Weather

From the title, "How Options Trading Is Like New England Weather" you ought to have a pretty good idea about where I am going with this post.  What we're talking about is getting a price you like for the securities you want, in this case options contracts.

An Options Trader Must Be Disciplined

The retail options trader has to be very patient and disciplined in trading. What this means is establishing a minimum or maximum price to pay for a options contract and not wavering until the entry point is reached (or walking away if missed).  It's that simple.  Preservation of investing capital demands committing to purchasing a security at a pre-determined price or set of market conditions (based on your observations of the market and comfort level) and not wavering from that commitment.  Likewise, immediately after acquiring the contract(s) the well disciplined trader already has an exit price in mind and sets a trading exit point with their broker to automatically execute once the criteria has been met.

Automatic Exit Transactions Reduces Anxiety

Setting automatic transactions reduces the duration of the holding period of the options contract, and likewise maintains disciplined entry and exit strategies (reducing a trader's stress and number of ulcers).  Second guessing is not an option (pardon any pun) for the options trader. The goal of this options trading tutorial is to get you thinking about determining what YOUR conditions for being comfortable entering and exiting the market will be.

Some factors you will need to consider are
What option contracts will you trade?
How much capital are you willing to commit to each position?
What is the minimum number of days to expiration you need to feel comfortable?
What is the maximum premium on the contract you are willing to pay?
What is the maximum spread between bid and ask you are willing to accept?
What is the minimum profit you are willing to wait for?
What are the market conditions (light volume? heavy volume? big dip pre-market? earnings announcements? dividend ex-date?) you require in order to feel comfortable buying an options contract?

The answers to these questions will help you determine which contracts to purchase, how much to pay, how much to sell for, and how long you will hold the contracts.

There is no guarantee of success with options trading, but the greater effort you put into narrowing down which market conditions and trading patterns you are willing to work on, the better your chances of making successful, repeatable profits from trading.

So How Does New England Weather Relate to Options Pricing?

Now back to the original title of this post: "How Options Trading Is Like New England Weather" - the answer to that is simple: Options trading is like New England weather in that if you haven't gotten the price you like to buy or sell a contract, chances are all you need to do is wait a few minutes because the prices (like the weather) will continuously change.  Eventually if you wait long enough, you'll either get your price, or the contract will expire.  No sense worrying about it.  You should be trading with money you can afford to lose.. so you your approach to exit pricing should be ambivalence - so long as you bought your contract at a price you were comfortable with in the first place (which you also should have waited for... like New England weather).

I hope this gives you an idea of ONE WAY to think about options pricing and trading discipline.