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The Four Basic Stock Option Trading Strategies For Mastery

By: Billy Williams..

Stock option trading offers more flexibility, leverage, and limited risk than any investment vehicle today. At this point in financial history the availability to access the derivative markets with online option trading now puts the power of these sophisticated instruments in the hands of the trader on Main Street as well as Wall Street. In contrast, the potential of these instruments can also be a little intimidating for some aspiring option traders because some strategies seem so complex. However, by gaining a foundation in four basic option strategies you can begin mastering the building blocks of all the available strategies that stock options have to offer. The basic strategies are four in number and are the long call strategy, the naked call strategy, the long put strategy, and the naked put strategy.

A long call strategy is taken when a trader is bullish on a given stock and looks to utilize the leverage of options to capture a greater gain on a stocks upward move. A call option allows the option trader to control 100 shares of a stock for a small premium while restricting his risk to just the price of the premium. This strategy allows your reward potential to be unlimited while your risk is limited to the cost of the call option. As the expiration date for the call option approaches though time decay works against this position so you must factor time into your trading decision when using this strategy.

The short call is easy to execute but is a risky strategy given the risk to reward profile which makes this somewhat of an advanced stock option strategy. The strategy is used if you believe that a stock is going to decline or stay at the present value. You implement the strategy by allowing someone to sell a call option to you. Your reward is the value of the premium at the time the call option is sold to you. This lets the seller of the option assign his risk to you while hedging his position. Time decay works for you as you approach the expiration date for the option you stand to gain more of the premium at assignment. The short call exposes you to uncapped risk if the stock rockets higher in price value and most brokers will not allow you to trade this strategy unless you are very experienced with stock option trading or hold a position in the stock that you are trading this strategy on.

The long put strategy is the inverse of the long call strategy where you are looking for the stock to decline rather than rally. When you buy a put option you control 100 shares of stock in a company and lets you take advantage of enormous leverage. Your reward potential is theoretically unlimited while your risk is limited to the cost of the put option. You must be sure to give yourself enough time to profit with your trading method because time decay works against you with this strategy.

The short put strategy, also called the naked put strategy, is used when you are expecting a stock to rise in price or remain at near the same price level for a given amount of time. Your reward is the cost of the put option if the stock rises or remains static but your risk is theoretically unlimited if the stock declines. If it falls in price and hits your stop loss point you must buy back the puts to limit your risk. This is a bullish strategy that is a short term income generator when used properly.

By taking the time to understand how each of these strategies work in a variety of market conditions you will begin to gain the foundation to master implementing them in combination. These incredibly effective risk reducing, profit enhancing instruments allow for over 60 different stock option trading strategies but all these combinations begin with these basic four strategies. As you gain mastery over how to coordinate them you will be able to put yourself in the best position to profit while maintaining the ability to limit your risk. Good trading.

Article Source: http://www.article-voip.com

Click here and learn more stock option trading mastery lessons and click here to learn one of the most effective trading methods for stock and option trading today!

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