Spread Trading: An Introduction to Trading Options in Nine Simple Steps

CHAPTER 21

Did You Know You Can Vastly Increase Your Return on Investment?

“That’s right.” “Well, that raises this question: In order to buy and sell options on a particular stock, do you first have to own the stock? Or can you just buy and sell options without owning the stock?”

“No, you don’t have to own stock at all to buy and sell options,” answered Nate. “And that’s a significant advantage. If the only way to be in the stock market were to own shares, you’d have to shell out thousands of dollars to barely get started. Look at our AAPL chain for example. (See Figure 21.1.)

“The stock is trading at $177.05 per share, so if you bought 100 shares, you would have to come up with $17,705. But you can buy an option—place a long call at a strike of $180—for $7.10 per share, or a total investment of $710 for 100 shares. With that $710 purchase of options (long calls), you would have these rights:

• The right to exercise your option and buy the 100 shares if you wanted to:

a. at the strike price of $180, and

b. within the expiration period

• The right to let the option expire rather than exercising it.

• The right to sell the option to someone else.

“Now let’s suppose,” said Aaron, “that the stock price goes up, say, to $200 by June, and let’s say the option value (depending on the delta) goes up to $12 per share. Now of course you have the right to let your option expire . . . but why would you do that in this case? You have a chance to make money, so you can’t just let the option expire ...