Basic Option Strategies

I liked the intro. There is another use for options, which is insuring against lost gain. Allow me to share a couple of anecdotes.<p>In January of '95 I knew my 3rd child was on the way and wanted a 'sedan' type car to take the family out. (we had my sports car and a mini-van at the time) I was working at Sun and had been participating in the Employee stock purchase program forever, and Sun stock had gone up a bit so I sold 1,000 shares at $37/share which after taxes and fees netted me enough cash to buy a Chrysler sedan for cash. No loan, no payments, pink slip on the first day I owned it. That was an <i>awesome</i> feeling. In March of that year Sun announced Java, the stock ended up doubling and splitting 3 times. The car I paid 'cash' for was worth 1.6M$ (at the peak of Sun's stock value). Youch!<p>So my Dad's buddy, a Swiss ex-banker, chastised me for not hedging my bet by buying an 'out of the money' call option, 12 months out. He explained that if the stock never went anywhere it would lower the effective 'gain' from my sale, but if the stock went up a lot it would protect me against having lost out on that value.<p>Flash forward to 2006, I'm heading for Google, I've got a chunk of NetApp stock and I having lived through the dot com crash I want to diversify. So I sell a lot of my NetApp stock at $35, <i>and</i> buy options for the same amount of stock a year out at $40. (so 'out of the money' by $5). NetApp kept going up and up, and I sold the options a month before they were due (NetApp was trading at $55 and I wanted to keep the gain in the the right tax year) and I got a nice 'bonus' payout on what was essentially the same stock I had sold nearly a year earlier.<p>The option was there only to protect against missing out on a large rise in the stock price. (which it did, not as well as if I had kept it all but I didn't miss out completely either).<p>I found that I would keep stocks longer than I should because I was 'worried' about whether or not it was the right time to sell. Options allow you to 'buy insurance' on against that worry, and for me that has made me more willing to make significant changes in my portfolio over the years.

Not a bad intro at all.<p>That being said, intros to options scare me in the same way a "Beginner's Guide to Fugu Preparation' would scare me: as a novice, you have no business mucking around with such dangerous things, but as an initiate, you have no need of the article.<p>Still, there is a readership for such things, and the author is clear to point out the potentially unlimited downside in the intro.<p>Now, scripting Excel with Python? I'd forgotten about these guys. My interest is officially re-piqued.

Whenever you're talking about vanilla options, _always_ mention the exercise type - European or American (or Bermudan/whatever). Single-name stocks like Facebook, Google have exchange-traded options which are American. Index-options such as those on the S&#38;P500 are usually European.<p>Also, it's a good intro for buy-and-sit strategies but rarely does anyone sit on options till expiry. They try to make some gamma-based profits (delta-hedged option) or some vol-based profits (strangle/straddle etc).

I'm a buy and hold long term investor for whom options seems ill suited. However sometimes I feel they might be useful to me because I could focus my investments on my area expertise and hedge against everything else.<p>As a developer and tech business owner I feel I have an edge when it comes to picking stocks in the tech sector. However, I'm not very good at predicting macroeconomic issues. Even though I think my stock picks will do well compared to larger sectors and markets, I'm always nervous my savings will be decimated by such things as europe/fiscal cliff/china which I'm not very good at predicting.<p>Unfortunately, I'm not sure how to edge against those things. I read on wikipedia that I could short sell an index or buy put options to protect me against this macro volatility but I'm not sure how to decide which to do, how to do it through my online broker, how to pick the parameters, how to decide if it's worth the premium or if it's worth doing at all given my relatively small and passive portfolio I use simply for saving for retirement.<p>Are there resources for simple savers like me who'd like a simple solution to hedge out a bit of the unknowns out of their portfolio and focus it more on their area of expertise?

This is a good intro to something everyone analytical should know something about.<p>It's also worth knowing that overall, most options expire worthless, so apparently selling them is a better game than buying them. Also spreads are typically pretty large so trading them profitably requires big moves.<p>The built-in 'cost' of options and futures is of course 'time decay' as they are all dated and you pay more for a date further in the future.<p>I think they'd be very useful if you found yourself in a position with a large amount of restricted publicly-traded stock. I'd imagine you couldn't legally just lock in your equity by going short in a retail account but markets are so highly-correlated now that you probably wouldn't even need options on your particular stock to afford yourself some protection against many downside situations. Rather you might just own puts on the closest-related index. It won't be free of course but if you spent 5% of your position as "insurance" until you could sell it could prove to be worth it versus weathering a loss due to overall supply/demand forces that could take the sector and market down 50% or more without any substantial change in your own company's numbers.

The more I read about the stock market the more it resembles a complex gambling scheme to me. My view of the stock-market limited to high-school economics is the straightforward "here's how you own part of a company and how you can support a company you want", and for companies "if you do good work, people will give you more money to expand and innovate" and I think at the base level that is there, but there is this whole side-show with the gambling that now totally shadows the original intent.

Basic option strategies: the TLDR; guide:<p>If you are buying options - you will consistently lose money. Both time and risk premia overpricing go against you. If you don't make the mark within the time period (and market dynamics are notoriously hard to predict) - you will lose 100%. Breaking even often requires a large 5-7% move in your favour - and that just doesn't happen often enough - especially in the one month buy-to-mark time frame that most options trade at. Nassim Taleb does this - he probably makes more money selling pretty books and giving fancy talks.<p>If you are selling options - you will consistently make fat stacks until you blow up (since you're the counterparty of the above buyers). You can push naked index puts or calls all you want, and make an absolute fucking killing. I'm not kidding. You could easily pull $10-200K a month in profit, depending on how much of a baller you think you are, and how much capital you have backing your risk-taking ass (talking individual traders here).<p>But this money isn't without insane risks, have no doubt - you are playing with an armed thermonuclear warhead. If all the market correlations go to one and you're the last guy holding the bag containing other people's vol - you will get decimated. LTCM did this for 3 years - blew up year 4 - lost $5 billion in one month. LTCM principals went on and started a bunch of similar firms - finance is apparently very forgiving of failure - it shouldn't be. Most of those funds went thermonuclear back during the 2007 GFC.<p>If you do a mixed strategy - you'll end up with mixed results - because you're just mixing the above. No option strategy outside of market making consistently makes money (computational traders making markets and taking hedged spreads).<p>It's exactly like insurance. Insurance buyers pay up, but they never want to actually use it (unless they are committing fraud/market manipulation), and are happy to burn that cash to protect themselves. Insurance sellers are happy to sell, but their industry is commodity, and the only way they make money is by investing the float they have on hand between cash inflows (buyer premiums today) and cash outflows (buyers claiming a year later).<p>Problem is shares aren't like physical goods - they aren't bound by physical laws and hence do not follow the normal distribution. Share prices can go to infinity and hit zero all over the course of a day - their just bits of data in a db somewhere in Jersey. Car crashes, geographically separated houses and diversified mega-cat risk don't do that - often :D.<p>If you put in a costless collar on a stock you already own, you cap both your upside and your downside relatively cheaply (this is how Mark Cuban survived the dot-com crash with $2 billion in Yahoo! stock).<p>Outside of those few lessons - unless you are pushing statistical liquidity or selling millions of options per day - stay the fuck away from them. Individual investors should either go passive index or if they know an industry inside and out value-growth.<p>Everybody else should either be supply liquidity (HFT - not too profitable anymore) or pushing relative stat arb (RenTech/Shaw's + hundreds of PhDs). Individuals should not try to compete in this area - at all. Just like you don't try to build your own car, cruise ship, 747, iPhone or tank, you shouldn't try and trade against stat. arb/HFT guys without the mental or financial backing to hold your own shit.<p>Value-growth/passive works because the market comes to you - hat in hand saying - here take my money please. Stat. arb/HFT also works, but it's much harder, because you have to go to the market and make sure that it isn't you that is saying - here take my money, please.

I like what these guys are doing, and we tried out their plugin for modelling.<p>However, you can't really do any modelling without factoring transaction costs. For the average retail investor these fees kill the profit on many otherwise theoretically profitable strategies.

Do brokers typically exercise your options for you automatically at the end of the term or do you lose all the money if you forget?

Gr8 intro article. Couple of tips.<p>You can buy stock and sell out of the money calls against them, thus reducing the overall purchase price. The stock can be called away if it rises above the strike price thereby capping the profits. However, you can always roll the options when you near the strike price and expiration. That way, you don't loose the stock when its having a great run. This also works in the specific case of sitting on FB stock from day one and being in a big hole at the moment. Keep selling out of the money calls and having them expire worthless, but keep rolling them to the next month when they get close to expiration.

I'm shocked to see Options being mentioned on hackernews. Though, I have been doing options for the past 6 months. Previously I had never even heard of them and knew nothing. Here are some insights as to what to expect...<p>Options are not for the faint of heart. If you are brand new to options and are just starting out then I suggest having a friend/expert help you. I also suggest you use very little money at first to get a feel for it. (Less than $300 at a time). Otherwise you will lose money, and quickly.<p>The only way you'll get good at options strategy is to practice them. There are no shortcuts to success (aside from getting lucky). You will likely lose money at first, unless you have a good teacher to hold your hand.<p>There are a lot of little nuances and safer ways to make money with options that I've slowly discovered over the past few months. Earnings are an exciting time. One could safely make several thousand each quarter if they are smart. I am just getting the hang of it after 2 quarters.<p>I personally stick to tech stocks like apple, google, and facebook. I usually only do weekly options. Ideally, you want to dabble in stocks that move as much as possible. (For example, if you had Apple PUTS this past week, you would have made a killing. This is true for Straddles or Strangles).<p>After dabbling in options for 6 months I would say that the average person should avoid them at all costs. You really can lose a lot of money and sleep. You need to be a certain type of person to do this as a hobby.<p>For those of you willing to take the risk, best of luck to you. With options, you are better to be lucky than good. It is true that you can make a lot of money if you are smart and patient. However, you will lose a lot of sleep either way.

You don't mention the downside of buying options... If it goes up, but doesn't hit the strike, you lose all your money. Options are a pretty risky play and it's typically not recommended that your average investor play the options market.

I was wondering if a straddle on GRPN would make sense?