I’m still new to options trading but I think I’m on the right path. Most Options Guru’s I’ve listened to say to start your option trading career by utilizing three simple strategies, and until you’re proficient at these, don’t even consider moving on to more complicated strategies.
According to the guru’s the three options strategies best for beginners are:
- The Cash-Secured Put Option Strategy
- The Covered Call Option Strategy
- And Credit Spreads.
Let’s explore these individually and in greater detail:
The Cash-Secured Put Option Strategy
The Cash-Secured Put Option Strategy is a trade you place when you think the underlying asset will go up (Bullish). Placing a Cash-Secured Put Option immediately pays you once you place the trade. The payment is a premium for taking on the obligation of potentially buying 100 shares of the underlying asset, if the trade ends up ‘in the money’ at the time of expiration.
Cash-Secured means you have the funds available to buy 100 shares of the underlying asset if it does end up in the money, and if the shares are ultimately assigned to you.
For example: I placed a Cash-Secured Put Option on VF Corporation with a Strike Price of $26 with an expiration of February 24th, 2023.
When I placed the trade on February 2nd, VF Corporation was trading at $31.80 and the trend appeared Bullish. But remember, I’m a neophite options trader, so what appeared to be a bullish trend could have been chalked up to my naivete and lack of experience.
Anyhow, I was paid $34.48 to take on the obligation of potentially being forced to buy 100 shares of VF Corporation if it closed at or below $26 on or before February 24th.
I mean really….If I had to buy the 100 Shares of VF Corporation at $26, this would mean I would have secured the shares at an 18% discount from where it was trading at on February 2. I thought it was a good bet.
About VF Corporation.
VF Corporation is the Parent Company of numerous apparel brands like; Vans, North Face, Timberland, and Dickies. It’s been around since right after the Civil War for goodness sake (founded in 1899). It’s paid a dividend for 34 years and has gained the highly coveted honor of being named a Dividend Aristocrat.
But, Inflation and the current economic conditions are making consumers expendable income, which is the ‘lane’ VF Corporation travels in, more scarce. This however, is temporary, the stock will bounce back….Someday..
What happened next will illustrate why it’s so important for you to pick stocks you don’t mind owning when you’re deploying the Cash-Secured Put Option Strategy.
We’ll circle back to what happened next, in just a few…
But first, the Covered Call Option Strategy.
The Covered Call Options Strategy is where you already own 100 shares of the underlying asset, and you sell the ‘obligation’ of surrendering your shares to someone if the agreed upon strike price is reached on or before the expiration date.
‘Covered’ means that the initiator of the call option owns at least 100 shares of the underlying asset in their account.
Many people sell Covered Calls as a way of building an income stream. You could sell weekly or monthly ‘out of the money’ covered calls to collect premium.
The goal of the Covered Call Options Strategy is:
For the underlying asset of which you hold 100 shares of, closes ‘out of the money’ at the time of expiration, then you keep the premium, and you keep your shares. Then you can turn around the next week and repeat the process for more income.
But as with all investments, it doesn’t always go as planned, and this is something you need to be prepared for. Your shares can be ‘called away’ if the option doesn’t go your way.
The third and final Option strategy, best of beginners, are Credit Spreads.
Credit Spreads can be Bullish or Bearish. With the Credit Spread Option Strategy, you choose 2 different out of the money strike prices, whether they be above the current price or below it.
The two strike prices may look something like this:
- Selling an option with an ‘out of the money’ strike price
- Buying an second option with a further ‘out of the money’ strike price with the same expiration.
There are two types of credit spreads:
-The Bull Call Credit Spread-
Here you Sell a call option, then you Buy a call option with a higher strike price with the same expiration.
-The Bear Put Credit spread-
Here you sell a put option, then buy a put option with a lower strike price with the same expiration.
Here is VF Corporation if it were set up as a Bull Call Credit Spread
Bull Call Credit Spread Components
Now, as a Bear Put Spread
Ideally you want to look for a 2 to 1 Loss to Profit ratio, with a delta in the +-20%
Next week I discuss how ‘Delta’ plays a pivotal role in selecting different strike prices on an Option Chain.
I ended up on the ‘wrong side’ of my VF Corporation Option position. I picked the $26 Strike Price when the trading price was $31.80 per share. I was hoping the price was going to go higher, and would have ended at a price higher than $26 at expiration.
If the price closed higher than $26 by February 26th, the option would have expired worthless. If so, I would have kept the $34.48 in premium I was paid at the time of placing the trade, with no initial investment.
As it turned out though, the price dropped to $24.18.
I still kept my $34.48, but I was forced to buy 100 Shares of VFC at $26, even though it’s currently trading at $24.18.
My Glass is still half full
I am happy with the way this trade turned out. Getting 100 Shares of VFC for $26 is still a bargain in my eyes. A year ago this stock was trading for $58.60 per share, and has had some recent good news. Many analysts see this stock as being undervalued at this price. The ex-dividend date is March 9th, which means I am eligible to receive $120 when the dividend is paid. I plan on reinvesting this dividend payment, in order to capitalize while this stock price is depressed.
While the outcome wasn’t exactly what I was hoping for, all in all it was a good learning experience and I’ll chalk it up as a net gain. Next week I will discuss the Options Greeks, with specific attention to the value “Delta’ provides when analyzing options positions.