Options and the Investor
Most people know that an option is a choice. It is a choice to buy that new compact disc, a choice to upgrade to leather on a new car, or a choice to speculate in the market. Options are a way to reduce risk associated with trading stocks and are quite advantageous in a capitalist society. An option is a “contract between two parties to purchase or sell a commodity futures contract at a predetermined price within a specific time period. Every option transaction has an option buyer and an option seller (4, p. 236).” The advent of organized options trading by the Chicago Board Options Exchange created a new way to play the market. Options can be used to hedge risk and to take profits larger than would be possible by buying and selling stock. This result can be accomplished using a variety of combinations to be discussed later in this paper. These strategies can be useful as pertaining to the options trader who wants to make the most profit with the least amount of risk. Elementary pricing of options will help the reader in understanding some of the differences in premiums and why the differences are so large. The Chicago Board Options Exchange has changed the way that options are traded through advances in technology to the point that options are bought and sold instantaneously with almost a 100% guarantee of credibility. This is one of the main reasons for the options explosion.
Options
Basic options have existed for eons and have been used as investment strategies for thousands of years. The concept was definitely used by societies other than ours, as illustrated by this excerpt from Aristotle’s Politics (2, p. 16):
There is an anecdote of Thales the Milesian and his financial device, which involves a principle of universal application, but is attributed to him on account of his reputation for wisdom. He was reproached for his poverty, which was supposed to show that philosophy was of no use. According to the story, he knew by his skill in the stars while it was yet winter that there would be a great harvest of olives in the coming year; so, having a little money, he gave deposits for the use of all the olive presses in Chios and Miletus, which he hired at a low price because no one bid against him. When the harvest time came, and many wanted them all at once and of a sudden, he let them out at any r...
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...the secrets of trading options. It is shown in the pages preceding that using options to hedge investment risk, or using options alone can almost eliminate the chance to lose big when investing. The advent of organized options trading by the Chicago Board Options Exchange created a new way to play the market. Options can be used to hedge risk, and to take profits larger than would be possible by buying and selling stock. Accomplished strategists have done very well in the options market, because with an increased repertoire of investing strategies, the investor who balances risk with reward will have the most success trading options.
References:
1.
Kolb, Robert, Options; An Introduction, (Miami, FL: Kolb Publishing Co., 1991).
2.
Gastineau, Gary, The Options Manual, 3rd Edition (New York, New York: McGraw-Hill
Book Co., 1988).
3.
Trester, Kenneth, The Compleat Option Player, 4th Edition (New York, NY: Inves Trek
Publishing, 1984).
4.
Caplan, David L. The New Options Advantage (Chicago, IL: Probus Publishing, 1995).
5.
http://www.cboe.com/education/
Options and the Investor
David Walker
Economics 185
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