Weekly Lesson Wednesday📝 

Intro to Options

^_Lesson
Options this, options that, what are they?

I am guessing most of you have heard about options in finance. Some of you are experts on all things puts, calls, Black Scholes model, the Greeks, etc. Some of you know only a little and others don’t know anything. Regardless of what you know, let’s break down a few things regarding options - simply.

An option is a type of derivative, meaning it “derives” its value from something else - basically a contract.

The contract’s value is the “option” to (in most cases) buy or sell a stock for a guaranteed price by a specific date.

So the value of your contract (piece of paper) changes based on what it guarantees.

Would you rather have the right to buy a stock for $10 in 1 month or 1 year (pretend the stock price is $8 now)?

1-year because there is more time for that stock price to go from $8 to $50 or $100.

After a year, you are holding the contract that allows you to buy the stock for $10 (even though it could be worth $50 or $100). Essentially, you are holding a 90% off coupon for when you are ready to buy.

Okay - so you have a few factors that influence the value of your contract such as - time window, guaranteed price, etc.

The metrics that measure how these factors (time window, etc.) influence the price of your contract (option) are called - The Greeks. We will look deeper into the Greeks in another newsletter.

Okay - so we determined that options are essentially contracts that change in value as the rights of the contract change and the Greeks measure these changes (more on that later).

But how are these contracts used? What are the strategies? Good questions.

Firstly, there are two types of option contracts:

Puts = The right to sell a stock at a determined price.

Calls = The right to buy a stock at a determined price.

So if a stock is $10 and you expect it to go up, you could buy a call that has a determined price (aka “strike price”) of $15. If the stock goes from $10 to $20 you have the right to buy the stock for $15 (instead of 20).

Similarly, if you expect the stock to go down, you could buy a put, which gives you the right to sell. If the stock is at $20 and your “strike price” is $15 and the stock drops to $10, you have the right to sell for $15 (instead of $10).

If you own the right to sell a stock for $15 and it is currently $10 - you can immediately buy it for $10 and sell it for $15. Boom profit.

Summary:

1. Options are contracts whose value changes based on what the contract allows.

2. You can use Puts and Calls as you expect a stock to go up (call) or down (put).

Hey, I hope that was easy(er) to understand. We wanted to start with this and build onto other topics for making that green $$$.

Thank you
That’s All Folks

Thank you for reading. Stay tuned for more option related topics such as - the Greeks, Options Strategies, Steady Income from Options, etc.

Like usual. Not financial advice. Full disclaimer here

Cheers,