By: Neil Szczepanski, Tradeology: The Fifth Insight
Myth #1 – Options trading is very risky
While trading options does carry risk, options can be used in a defined risk strategy. This is when you limit your upside but also limit your downside. For example, you buy a call option and sell a corresponding call option at a different strike to offset your position. When a defined risk strategy is used with stock options it can be less risky than buy and hold strategy in traditional stock trading.
Myth #2 – Diversification in stock trading is the best way to limit your risk
One could argue this used to be the case, but with the wild swings in the market like we had in 2008 when everything went down diversification will not help you. One of the best ways to limit your risk is a risk defined options strategy.
Myth #3 – 95 percent of options expire worthless
According to The Chicago Board Options Exchange (CBOE) here are the facts:
- Approximately 10 percent of options are exercised (the trader takes advantage of their right to buy or sell the stock).
- Around 55 percent-60 percent of option positions are closed prior to expiration.
- Approximately 30 percent-35 percent of options expire worthless.
Myth #4 – The only profitable way to trade options is buying calls or puts
While this can be very profitable, this also is one of the riskiest ways to trade. With stock trading the stock will either go up or down. When you buy options you have price direction, volatility and time decay. It is possible to get the direction right but lose because the options contract had a volatility crush with time decay. Bottom line if you are an option buyer you need to get direction right, and the direction/move has to be strong enough to beat the time decay and volatility crush if there is one.
Myth #5 – It’s easy to make money with options
This is not the case. Since the market is always changing different strategies will need to be implemented in order to be successful. Truth be told learning how to trade and invest successfully requires dedication and a lifetime of learning. This is something that never ends. Getting the right training can be the difference from being a successful trader and a trader that loses at the school of hard knocks. The key to being successful trader is investing according to your risk tolerance, the strategy, positions sizing and having a coach to help you learn and avert losing while you learn. Trading can take a long time to master, and a mentor can help you hit the ground running with the basics and the dos and don’ts.
Neil Szczepanski is the head coach at Tradeology: The Fifth Insight, on YouCanTrade.com. Neil offers group and one on one options trading coaching, and whose goal is to create a community and environment where new and novice investors can join and learn how to trade and become a better trader.