A Beginner’s Guide to Options Trading

A continuing rise in popularity is expected for options trading. Experts are not surprised by this, but for people who are not in the know, we will explain to you why this trend is not a surprise. With options trading, it is easy to take small amounts capital and leverage it for quick gains. You also have the option to hedge your portfolio against market drops.

There are many opportunities in the market today, but there is a pervasive lack of understanding prompting people to make the wrong calls. Hopefully, this will help.


What is an option?

So much has been said about options, but not everyone really understands them. Options are basically contracts. This is the simplest way of explaining them to the man on the street who does not know much about finances and investment. The contract is set between two parties prior to making any exchange.

What will the two parties be exchanging? They will be exchanging risks. The stock market comes with a lot of risks. You will never know when prices will go down and when the market will crash.

Risk exchange in Trading options

Options trading can be likened to driving. Both are risky and, in order to protect yourself, you will pay a premium to an insurance company so that, if something bad happens, you need not worry too much. You will not be losing a large amount of money because you are covered.

Options are also derivatives. Their price is based on the relationship between the stock and the risk premium people are willing to pay.

Option Pricing

One of the options basics which every investor should know is how options are priced. As explained earlier, options are contracts but, unlike other contracts, they have an expiration date. If a buyer refuses to exercise his or her right to that contract before the expiration date, it will become null and void.

The options Market

Where are options traded? They are traded in the options market, and there will always be two sides to each trade. There will always be a seller and a buyer. The seller will accept the risk for a premium, and the buyer will pay a premium to transfer the risk. The standard size of a contract is 100 shares.

Because the market is vast, it does not make any sense to have thousands of people calling each other all the time. This is why most firms have a standardised clearing organisation that helps match sellers and buyers.

Why Trade Options

Why should you choose options when there are other types of investments available in the market? With options there are two extra components: time and risk. It is important to understand exactly how prices move over time and how you will be able to get an edge in the market. In short, you should trade options because many opportunities open up for you when you do so.