The goal of option trading is to make money. It’s a fascinating endeavor—it will make you a better investor, will help you learn something, and will teach you something about yourself. But the goal is to make money, please don’t forget that. Too often people start to trade options because it seems interesting. It is and it can be lucrative, but it’s the lucrative part that matters.
Option theory relies on certain concepts and formulas but is ultimately used by humans. In order for the extraordinary complex financial world to be distilled to formulas that are actually usable, those concepts and formulas have to make certain assumptions; those assumptions aren’t always consistent with the way the world really works. Once humans start using those concepts and formulas, they use them in such a way that attempts to correct for some of those flawed assumptions. The result is that there are certain naturally occurring phenomena in the option world that we can use to our advantage and that will help us make money.
Some of these phenomena are the result of human behavior. Some are a function of the way markets work. Some are a result of the over-idealized world of option pricing models, but all are robust and persistent. They may not exist at each and every moment but they’re generally at work, and even if some market force has temporarily overshadowed one of them we can be confident it will return.
This book is not intended for the absolute beginner. We’ll define our terms but ...