O'Reilly logo

Stay ahead with the world's most comprehensive technology and business learning platform.

With Safari, you learn the way you learn best. Get unlimited access to videos, live online training, learning paths, books, tutorials, and more.

Start Free Trial

No credit card required

Options Trading

Book Description

Even for the experienced trader, options trading can be a risky and intimidating investment strategy. However, with the right strategies and approach, it can be an exciting investment option that can pay serious dividends. Through logical, step-by-step guidance Idiot's Guides: Options Trading gives you the tools you need to reduce risk, while boosting the odds for success with these volatile and unpredictable investments. You will learn about all of the common types of options including index, ETF, and equity options, and then move into newer strategies including binary options and the new 20-minute options. Idiot's Guides: Options Trading will help you decide how to choose the approach that fits your investment strategies, how to weigh option costs and benefits, understand options contracts, use technical analysis to evaluate opportunities, and how to minimize risk while building a strategy that maximizes gains while protecting against market fluctuations.

Table of Contents

  1. Cover
  2. Title Page
  3. Copyright Page
  4. Introduction
  5. Part 1: Introduction to Options Trading
    1. 1 All About Options
      1. What Are Options?
      2. Why Options Exist
        1. Insurance
        2. Leverage
        3. Speculation
      3. Basic Options Terminology
        1. Puts and Calls
        2. Bid and Ask
        3. Long and Short
        4. Strike Price
        5. Expiration Date
        6. American and European Options
      4. Underlying Securities
        1. Commodity Options
        2. Equity Options
        3. Index Options
        4. Interest Rate Options
        5. Miscellaneous Options
    2. 2 How Options Work
      1. Reading the Quotes
      2. Basics of Orders
        1. Option Transactions
        2. Basic Order Types
        3. Advanced Order Types
        4. Floor Execution
      3. Marking to Market and Margin
      4. Moneyness
      5. Open Interest
      6. Expiration and Exercise
        1. Expiration
        2. Exercise
        3. Delivery and Settlement
      7. Extrinsic and Intrinsic Value
      8. Relationships Among Options
      9. Options Cycle
    3. 3 Exchanges, Brokers, and Other Market Institutions
      1. Pricing and Trading Structures for Options
        1. The Role of Market Makers
        2. The Order of Trade
        3. Price Improvement
      2. Where to Trade Options
        1. Options Exchanges in the United States
        2. Over-the-Counter Options
      3. Finding a Broker
        1. Commissions and Trade Execution
        2. Position Limits
        3. Choosing a Software Platform
        4. Futures Commission Merchants
      4. Signing the Options Agreement
      5. Other Institutions in the Options Game
        1. Options Clearing Corporation
        2. Options Industry Council
        3. The Regulators
    4. 4 The Greeks
      1. Delta
        1. Delta in Pictures
        2. Delta in Use
      2. Gamma
      3. Theta
      4. Other First Derivatives
        1. Vega
        2. Rho
      5. How to Use the Greeks
  6. Part 2: Options Valuation and Trading Strategies
    1. 5 The Basics of Options Valuation
      1. Put-Call Parity
      2. Basics of Valuation
      3. Understanding Pricing with the Binomial Option Model
      4. Pricing in Detail with the Black-Scholes Model
        1. Value of the Underlying
        2. Time Value
        3. Interest Rates
        4. Volatility
        5. American or European?
        6. The Effect of Dividends
        7. Putting Together the Black-Scholes Model
      5. Heston Volatility Model
    2. 6 The VIX and Other Market Indicators
      1. Working with Volatility, Implied and Otherwise
      2. Sentiment
        1. Put-Call Ratio
        2. Put and Call Volume Indicators
        3. Premium Levels
        4. Confidence Index
        5. Implied Volatility
      3. The VIX
        1. Calculating the VIX
        2. Using the VIX
        3. Extending the VIX Concept
      4. Using Indicators
        1. Bullish Strategies
        2. Neutral Strategies
        3. Bearish Strategies
    3. 7 Beginning Options Trading
      1. How to Open an Account
        1. The Options Agreement
        2. Margin Accounts
      2. Accounting in Your Account
      3. What Do You Want to Do?
      4. Simple Speculative Strategies
        1. Covered Calls
        2. Playing a Hunch with Weeklys and Binary Options
        3. Writing Deep Out-of-the-Money Puts
        4. Reducing Transaction Costs with the Wheel Trade
      5. Hedging
      6. Closing Out Your Position
        1. Offsetting Trades
        2. Expiring Worthless
        3. Exercise and Assignment
      7. What About Employee Stock Options?
    4. 8 Call Strategies
      1. Basic Uses of Calls
        1. Why Use Long Calls
        2. Being Short a Call
        3. The Call and Its Premium
      2. Call Strategies
        1. Writing Covered Calls
        2. Writing Naked Calls
        3. Replacement Therapy
        4. Call Spreads
        5. Butterfly Spreads
        6. Condors
      3. How to Think About Calls
    5. 9 Put Strategies
      1. Basic Uses of Puts
        1. Long Put Strategies
        2. Short Put Strategies
        3. The Put and the Premium
      2. Put Strategies
        1. Protective Puts
        2. Naked Puts
        3. Put Spreads
        4. Married Puts
        5. Butterflies
        6. Condors
      3. How to Think About Puts
    6. 10 Combination Strategies
      1. Combination Spreads
        1. Back Spread
        2. Christmas Tree Spread
        3. Box Spread
      2. Straddles and Strangles
        1. Straddles
        2. Short Straddle
        3. Strangles
        4. Iron Butterflies and Iron Condors
      3. Collars and Fences
      4. Rolls, Jelly and Plain
      5. Strips and Straps
      6. Repair Strategies
        1. Option Repair
        2. Stock Repair
  7. Part 3: Advanced and Synthetic Strategies
    1. 11 Futures, Forwards, and Related Derivatives
      1. Defining Futures
        1. Types of Futures Contracts
        2. Options on Futures
      2. Forward Contracts
      3. Environmental Credits
      4. Swaps
        1. Currency Swaps
        2. Interest Rate Swaps
        3. Commodity Swaps
        4. Swaptions
      5. Collateralized Debt Obligations
      6. Credit Default Swaps
      7. Repurchase Agreements
      8. LEAPS and Weeklys
    2. 12 Synthetic Securities
      1. Setting Up Synthetics
      2. A Synthetic Stock
      3. Long Synthetic Stock
      4. Short Synthetic Stock
      5. Synthetic Options
        1. A Synthetic Call
        2. Long Synthetic Call
        3. Short Synthetic Call
        4. A Synthetic Put
        5. Long Synthetic Put
        6. Short Synthetic Put
        7. The Role of Interest
        8. A Reminder About Volatility
        9. Synthetics and Moneyness
        10. What’s the Downside?
      6. Why and How to Use Synthetics
        1. Can’t Borrow Shares to Short
        2. No Exchange-Traded Product
        3. Greater Efficiency on Some Hedges
    3. 13 Arbitrage
      1. The Law of One Price
      2. Arbitrage Strategies
        1. Simple Arbitrage
        2. Option Arbitrage
        3. Scalping
        4. Synthetic Securities
        5. Conversion Arbitrage
        6. Reversal
        7. Box Spreads
        8. Interest Rate Arbitrage
        9. Index Arbitrage
        10. Merger Arbitrage
      3. Commissions, Taxes, and Other Considerations
        1. Commissions
        2. Dividends
        3. Interest
        4. Taxes
        5. Problems and Downsides of Arbitrage
        6. Pin Risk
        7. High-Frequency Trading
    4. 14 Technical Analysis
      1. The Basics of Technical Analysis
      2. Intermediate Technical Analysis
        1. Trendlines
        2. Moving Averages
        3. Breakouts
        4. Volatility
        5. Reversals
      3. Basic Chart Patterns
        1. Pennants and Flags
        2. Head-and-Shoulders
        3. Cup-and-Handle
        4. Gaps
      4. Theories of Technical Analysis
        1. Fibonacci and Elliott Wave
        2. Candlestick Charting
        3. Gann
      5. Putting It All Together
    5. 15 Fundamental Analysis
      1. Why Analysis Matters
      2. Starting with the Macroeconomy
        1. U.S. Data Sources
        2. Global Data Sources
      3. Analyzing the Underlying Asset
        1. Single-Stock Options
        2. Financial Products
        3. Commodities
      4. Looking at the Calendar
      5. Fundamental Analysis in Options Trading
      6. Putting It All Together
    6. 16 Research Services
      1. Determining Your Needs
        1. Your Trading Style
        2. What Drives Your Market
        3. How You Learn
        4. Research Relative to Performance
      2. Types of Research Services
        1. Data
        2. Research and Analytics
        3. Trade Ideas
        4. Training
      3. Evaluating the Services
        1. Running Some Background Checks
        2. Are They Running a Service or a Sales Pitch?
        3. Using Your Broker
      4. Buyer Beware
  8. Part 4: The Business of Trading
    1. 17 Trade Planning
      1. Pick Your Markets
      2. Pick Your Timeframe
      3. Set Your Goals
        1. Are You Beginning or Advanced?
        2. Are You Speculating or Hedging?
        3. Return Targets
        4. The Probability of Ruin
        5. Risk Limits
        6. Time and Attention
      4. Cash Management
        1. Fixed Fractional
        2. Fixed Ratio
        3. Gann
        4. Kelly Criterion
        5. Martingale
        6. Value at Risk
      5. Cost of Carry
      6. Plan Your Trade …
        1. How Much Money?
        2. Why Trade?
        3. For How Long?
      7. … and Trade Your Plan
        1. Order Execution
        2. Sticking to Your Limits
      8. Keep a Trade Diary
      9. Managing Your Profits
        1. Compounding Returns with the Same Strategy
        2. Pyramiding
        3. Taking Money Off the Table
    2. 18 Taxes
      1. Income and Capital Gains
      2. Proceeds and Basis
      3. How Options Affect the Tax Basics
      4. The Tax Rates, Applied
        1. Dividends
        2. Capital Gains
        3. Interest Income
      5. Closing an Option Position
        1. Using an Offsetting Position
        2. Assignment or Exercise: Call Edition
        3. Assignment or Exercise: Put Edition
        4. Worthless Expiration
      6. Straddles
        1. Antistraddle Rules
        2. The Explanation
        3. Antistraddle and Offset Rule Exemptions
      7. Who Are You, Anyway?
        1. Investors
        2. Dealers
        3. Traders
      8. Options in Retirement Accounts
      9. Deducting Investment Expenses
        1. Research and Advice
        2. How to Handle Commissions
        3. Investment Interest
        4. The One Expense You Can’t Deduct
      10. Hiring a Tax Adviser
        1. Types of Tax Advisers
        2. Special Considerations for Traders
        3. State Taxes
    3. 19 Evaluating Performance
      1. Learn About Options, Not Strategies
      2. Testing Before You Trade
        1. Backtesting
        2. Simulation
      3. Tracking Trades
        1. A Simple Trading Diary
        2. Spreadsheet
        3. Setting Up a P&L
      4. Calculating Overall Performance
        1. Types of Return
        2. Risk Calculation
        3. Benchmarking Performance
      5. One Final Note
    4. 20 Training Your Brain
      1. Controlling Your Emotions
        1. Doubt
        2. Fear
        3. Greed
        4. Overconfidence
        5. Anxiety
        6. Boredom
        7. Depression
      2. Importance of a Trading Plan
        1. Trading as a Thoughtful Endeavor
        2. Evaluate Your Plan
        3. Learning, Without Emotion
      3. Having an Outlet
        1. Balancing Life
        2. A Walk-Away Fund
      4. If You Have a Problem
  9. Appendixes
    1. A Glossary
    2. B Resources
  10. About the Author