Stock Index Options
The equity option strategies you have learned throughout this book can be applied to index options. Like an equity option, an index option offers a trader an opportunity to capitalize on rising, declining, or sideways markets. Trading index options can be a nice addition to your option strategies, but there are some nuances, advantages, and disadvantages that you need to consider. This chapter provides background information, lists some indexes I like to follow, provides an example of an index option chain, provides examples of basic index strategies, describes differences in volatility at various strike prices, and discusses other issues. Index strategies are illustrated in Appendix B. This chapter will set the stage for Chapter 26, which covers stock index futures options.
An index option works in essentially the same manner as an option on a stock or ETF, except that on exercise or assignment it is cash settled and you cannot buy or sell an underlying cash index directly. Some index options are American-style exercised (e.g., the S&P 100 index, symbol OEX) or European-style exercised (e.g., the S&P 500 index, symbol SPX). The option strategies that you have learned throughout this book can be applied to an index. For example, like an option on a stock, the index option buyer has unlimited reward potential and limited risk, and the seller has limited reward potential and unlimited risk. An index call option provides the purchaser the ...