Ordinary people think that options trading is always risky in nature. It has a reputation for being risky, but this is a misconception about options trading. While it may be true that options trading is extremely risky, it can be highly profitable if one is equipped with great trading skills and strategies. Like any other form of offline or online trading, it involves risk and uncertainty. Risks and uncertainties in trading options are greater if one has no idea of what he is doing.
I want to begin with the basics of options trading, its introduction in the USA and how it becomes profitable to many and losing venture to others. Later in this article I will discuss some basic things you need to know about options trading that could help you win a day in the market where losing money and uncertain investment are just the norms.
What is Options Trading
An option is an arrangement where one grants another the right to buy or sell something in the future. In the case of Dow index future options, when one buys a Dow call options this entails that they are buying the right/privilege to purchase that underlying Dow future at a definite price at a specific time in the future. This definite price is called “strike price” while the specific time is called the “expiration date”.
This trading can also be understood as when one investor buys a put, they are basically selling the market since a call fundamentally buys the market. In the same manner, when an investor sells a put, they are essentially buying the market since selling a call basically sells the market.
In order to have that chance to buy an option on this future, investors pay a so-called “premium.” In case the market does not make the strike price of the option, then that option will be considered worthless on the expiration date. Moreover, in case the market does not reach the strike price of the option on the expiration date, it follows that the investor will be allocated the underlying future at that specific strike price.
How Options Trading Began
This market enterprise started in the 19 century. The beginnings of options trading coincided with the time when stock trading commenced. However, the scenario is different as newspaper advertising must be used at that time so that options buyers can find options sellers. It can be assumed that during that time options trading had not yet gained ground in the market.
Options trading started officially in 1848 when the Chicago Board of Trade was founded and options contracts began to trade in the United States. Other exchanges began to trade options when the Chicago Board of Trade, Kansas City Board of Trade, Minneapolis Grain Exchange and the New York Cotton Exchange commenced to trade contracts involving options.
Be that the case, options trading was still not popular as an option to invest into the market. The apparent reason for this low popularity is the low options liquidity during that time.
Significant changes came only in the middle of the 20th century when the Chicago Board of Options Exchange was opened and paved the way for options trading. Since then liquidity of options grew tremendously making it as a pull factor for spectators to trade options.
Another important milestone was achieved in 1977 when options puts started to trade on the Chicago Board of Trade. In 1985 the NYSE and the NASDAQ began to trade equity options contracts.
Since then, options trading has been one popular way of investing into the market. The reason for this popularity is high liquidity and great leverage. Today, there is a wide range of the options that exist on the market. Options on equities, futures, indexes and currencies may be the considered by investors. Be that as it may, options trading is still regarded as one of the extremely high risky kinds of investment on the market where one may lose all invested capital.
Things you need to know about options trading
As mentioned earlier, options trading is highly risky if one is not equipped with great skills and basic knowledge about it. It pays a lot to know everything there is about trading options before you begin. If you are not equipped with enough knowledge and skill, you can lose a king’s ransom in the first hours or days of the deal. What you need to get is the proper and correct information in order to gain success in this venture. If you are given the wrong information, you can lose everything.
So what should you do before you start trading options? First, be abreast with what options trading is all about. Give time to understand as much terminology used in this venture.
I have mentioned some basic terms above. Knowing these terms will pay off later. In addition, knowing the difference between the types of options means a lot. There are two types of options. These two types are totally different. Don’t ever confuse them as this might lead to you losing everything.