If you are interested in day trading, listen up. We will be discussing day trading option contracts. Day trading stocks is extremely dangerous so please invest carefully.
Millions of Americans have lost, sometimes, their entire life savings in spans of less than a week. Most of the time Americans lose money life saving through day trading, it’s the doings of shady hedge fund managers or guys like Bernie Maddoff. While it’s maddening to hear stories like that, remember this. This guys are seasoned professionals.
These “hedge” fund managers know everything there is to investing. But they will still continue to lose money all the time.
Because the stock market is unpredictable.
Nobody knows what the stock market is going to do. The people who say they know the secrets to the stock market – If they really knew these said secrets, do you think they would tell anyone?
These scam artists wouldn’t sell people products or services. They would already have all the money they need from the stock market!
The point is, day trading is nothing to play around with. Please be extremely careful before making any investment decisions without acquiring the proper knowledge.
I would like to start you guys off with the introduction to day trading stock options.
Stock Options and Option Contracts
Options are Derivatives
An option is a special type of investment that is classified as a derivative.
Derivatives are financial securities with a value that relies on, or derives from, another asset or groups of assets. You may have heard of another common type of derivative called futures.
Do you remember when the United States operated under the gold standard? The value of U.S. currency derived from the amount of gold that the United States held. Also the amount of currency that was in fluctuation.
Options carry contracts that enable, not require, contract holders to exercise their contract after they expire.
Stock options are derivatives that derive their value based on the stock’s performance. They give you the option, not the obligation, to exercise your contract.
Stock options come in contracts that say you have the right to buy 100 shares of a stock at a specific price point depending on the stock and the option chain.
The option chain is the stock option contracts you can purchase at specific price points.
This is what a stock option chain looks like:
Take a look at the picture above. This a an old CLDN option chain from 2015.
The call options are on the left hand side of the table. The put options are on the right hand side of the table.
Call options are contracts that predict the stock price is going to rise. Put options are the opposite, saying the stock price will decrease. Investors who purchased call options want the stock price to increase. And put option holders want the stock price to decrease.
Investors want the price to reach the strike price (middle column) and rise/fall beyond that strike price.
The strike price is price is the price that you predict the stock will reach in time of expiration.
Our Stock Option Prediction Example
We think that our CLDN stock above is going to rise to at about $21.50 per share. The price of the stock is at $17.73 now. Because we believe the stock price will rise to $21.50, we purchase 3 call contracts at a $20.00 strike price. The contracts will expire in 3 months.
Two months later, the stock price is $20.50.
Wait, $20.50? That means our contracts are in the money right?
Well, not exactly. You have to take into account the call contracts premium price as well.
Premiums are the fee’s associated to contracts for writing out the contracts. Even free commission trading websites/apps like RobinHood have fee’s associated to option contracts.
After taking into the $.50 per contract premium, we are finally in the money! It’s almost one month later, almost at the end of our 3 month contract expiration date. The stock price is at $21.00. We finally in are in the money!
We now have the option to sell the contracts for a profit, or wait until the contracts expire. If you are in the money and your contracts expire, you will now have the option to buy 100 shares of CLDN at $21.00. But after your contracts expire, you have lost your option to sell your contracts.
So don’t forget about when your option contracts expire!
How much profit did we make?
Let’s do the math.
Strike ($-20.00) + Premium ($-.50) – exercised price ($21.00) = Profit/Loss ($.50) x Shares (100) x # of Contracts (3)
Total Profit = $150