A stock option is the right, but not the obligation, to buy or sell a stock at a specified price over a specified period of time.
An option to buy stock is a call.
An option to sell stock is a put.
The purchase price of an option is called the premium.
The date at which the option expires is appropriately called the expiration date.
Call buyers normally to expect the stock price to rise.
Put buyers expect it to fall.
Sellers of calls and puts obviously have different opinions from buyers.
The main advantage of buying options, instead of the underlying stock, is that you invest less money but you can profit from the stock movement...
if you're right about the direction and timing of the movement.
That's a big "if", of course.
Which leads to the main disadvantage.
The vast majority of stock options are never used and expire worthless.
In that case, the entire purchase price of the option is lost.
Since most options expire worthless, why not sell options and pocket the premiums? The problem is that in return for a (usually small) premium, you're taking a big or theoretically unlimited financial risk.
For instance, if you sell a $10 September call on 100 shares of ABC stock for $100 premium, you'd better hope the call buyer is wrong.
You'll do fine if ABC stays at or below $10 per share.
At expiration in September, you pocket your $100 premium.
However, you could lose if ABC stock goes above $10.
Come September, you have to supply those 100 shares to the buyer at $10 each, even if you have to pay $15, $20, $30...
or more a share to do so! In return for a relatively small premium, you've taken on potentially unlimited financial risk.
What about selling covered options for extra income? An option is covered if you own the underlying stock.
For instance, if you own 100 shares of ABC, and you sell a call on those shares, the call is covered.
As long as ABC stays or or below the call price (as in the above example), the option premium is yours free and clear.
If ABC rises above your call price, you must deliver those shares to the buyer at strike price, which is $10 in our example.
That's okay, isn't it? After all, you own the shares.
You may even make a profit on the sale.
It's true that because you own the shares, you don't face potentially unlimited losses buying the shares at market.
However, you're being taken out of the market due to rising prices of your shares.
That is the best time to be IN the market.
In fact, that's the reason most people buy stocks in the first place.
So, for a (usually small) premium, you could be giving up the chance to make big stock market profits.
An option to buy stock is a call.
An option to sell stock is a put.
The purchase price of an option is called the premium.
The date at which the option expires is appropriately called the expiration date.
Call buyers normally to expect the stock price to rise.
Put buyers expect it to fall.
Sellers of calls and puts obviously have different opinions from buyers.
The main advantage of buying options, instead of the underlying stock, is that you invest less money but you can profit from the stock movement...
if you're right about the direction and timing of the movement.
That's a big "if", of course.
Which leads to the main disadvantage.
The vast majority of stock options are never used and expire worthless.
In that case, the entire purchase price of the option is lost.
Since most options expire worthless, why not sell options and pocket the premiums? The problem is that in return for a (usually small) premium, you're taking a big or theoretically unlimited financial risk.
For instance, if you sell a $10 September call on 100 shares of ABC stock for $100 premium, you'd better hope the call buyer is wrong.
You'll do fine if ABC stays at or below $10 per share.
At expiration in September, you pocket your $100 premium.
However, you could lose if ABC stock goes above $10.
Come September, you have to supply those 100 shares to the buyer at $10 each, even if you have to pay $15, $20, $30...
or more a share to do so! In return for a relatively small premium, you've taken on potentially unlimited financial risk.
What about selling covered options for extra income? An option is covered if you own the underlying stock.
For instance, if you own 100 shares of ABC, and you sell a call on those shares, the call is covered.
As long as ABC stays or or below the call price (as in the above example), the option premium is yours free and clear.
If ABC rises above your call price, you must deliver those shares to the buyer at strike price, which is $10 in our example.
That's okay, isn't it? After all, you own the shares.
You may even make a profit on the sale.
It's true that because you own the shares, you don't face potentially unlimited losses buying the shares at market.
However, you're being taken out of the market due to rising prices of your shares.
That is the best time to be IN the market.
In fact, that's the reason most people buy stocks in the first place.
So, for a (usually small) premium, you could be giving up the chance to make big stock market profits.