Options Trading for Beginners IQ

An option is a contract that gives the buyer the right, but not the obligation, to buy or sell an asset at a specified price on or before a particular date. An option is like any other financial instrument in that it is a binding contract with stringently defined terms and details. Options are used to gain exposure to an underlying financial instrument (say Google shares) for a fraction of the cost.

Using a real life example, let's say I have a camera valued at $100 that you think will increase in value in the future. You enter into a contact with me to buy the camera in 6 months time for $100 and in return for selling you this option I receive $5 from you today (this is the option premium). Now, let's say that in 6 months time the camera is valued at $200, with your option you can buy my camera for $100 and then sell it to another party for $200. Your cost would be $105 ($100 purchase price + $5 premium), giving you a net gain of $95. I would receive a total of $105.

Looking at it another way, the camera could be worth $50 at the end of the 6 months. What would happen to your option in this scenario? You would not want to purchase a $50 camera for $100 so your option would expire worthless and you would be lose your $5. But, you are still in a better situation than if you had bought the camera 6 months ago for $100. I still own the watch, which has reduced in value by $50, but I also get to hold on to the $5 option premium so my actual loss is $45.

This is how the options market works. You have a buyer who pays a premium to the option seller and will make money if the underlying security increases in value. The seller receives the premium but gives up any future price gains. This type of option is called a call option, which is the right to buy an instrument. The other type of option is called a put option and works in the opposite way in that it is the right to sell an instrument. You would buy a put option if you believed the price of the camera was going to fall.

For more details, see Options Trading IQ

Below is a list of the top traits of successful investors and options traders.

They Are Properly Capitalized - A very easy mistake for beginner traders is not being properly capitalized. Beginners see the leverage option trading offers and think they can turn $1,000 into $10,000 in a matter of weeks. Before long, a couple of losing trades have completely wiped out their capital.

They Have A Low Tolerance For Risk - Successful option traders also have a low appetite for risk. The best traders will only trade when there is a low risk high reward scenario. They like to have the odds skewed in their favor as far as possible. The best option traders will not try to hit home runs with every trade.

Trades Only When The Market Provides An Opportunity - One quality all great traders have is patience. Successful investors will only enter into trades when the odds are stacked in their favor. They would much rather be the house rather than the average guy on the street trying to win big. They are focused on the bigger picture and are willing to wait and have the patience to only trade when the right opportunity presents itself. Some of the best traders often talk about sitting idle and just watching the markets, waiting for the perfect time to make a trade. Beginner investors find it difficult to not trade and are enthralled by all the green and red numbers on their screen and feel like they are missing out on the action.

They Have A Trading Plan - Before opening an account, everyone needs to have a trading plan. This shouldn't just be in your head either, you need to write it down! By writing it down, it is distinctly defined and you can refer back to it at any moment. It will also seem more real if you write it down and you'll be much more likely to abide by it. In order to be successful you need to have a plan and think things through rather than just flying by the seat of your pants.

They Have A Risk Management Plan - Only trade with what you can afford, don't risk money you can't afford to lose. Trade conservatively, rather than think of what you can make, every time you place a trade, think about the worst case scenario. What you could lose and how you are going to handle the position if things go badly? Amateur traders have trouble getting a grip on how much to risk on each trade. When starting out you shouldn't have 90% of your capital tied up in one trade. Another good risk management rule is to set a fixed percentage of you capital as your risk per trade. A common approach would be to set 5% as the maximum capital to risk per trade, but for beginners you could make that even lower. Once a trade is placed you need to be vigilant at monitor risk levels, you can't just have a set and forget policy, you have to stay focused on your positions and your total portfolio risk. Having a risk management plan is crucial to success as a trader and something that should be done before you start trading.

They Can Control Emotions - Options trading is an incredibly emotional experience and one that you cannot fully realize until you have your own hard earned money at risk. The great traders are able to control their emotions not just when times are bad, but more importantly when times are good. The best traders can keep their ego out of the equation and stay grounded even in the midst of fantastic winning periods. In addition, when one of their trades turns out to be a loser, they are able to admit they were wrong and close out the trade. The best traders never get attached to a trade or a certain stock. A bad trade could turn out to ok, but sticking to your pre-defined trading rules is critical. You should always stick to your trading rules and keep your emotions out of it.

They Are Incredibly Disciplined - Successful investing takes a great deal of discipline. Amateur traders may find it very difficult to just sit and wait for a good opportunity to trade. Waiting for the right opportunities may mean you don't trade for a few weeks, but trading out of boredom or excitement is one of the worst things you can do.

Having a money management and a risk management plan is one thing, but in order to be a great trader, you have to have the discipline to stick to it.

They Are Focused - For beginner options traders it is very easy to get carried away and become energized by all the green P&L numbers on their account screen. Keeping a level head is crucial. It can also be hard to stay focused when there is so much news on the markets and so many experts, each with a different opinion. The most important aspect is to stay focused on your goals, your trading strategy and your rules. Don't try to copy someone else's trades or go against your trading rules just because of something Jim Cramer said. Get to know yourself as a trader as well, if you find yourself losing focus, or getting too distracted and stressed with everything going on, it can be a wise move to close out all of your positions and take break for a while. Sometimes that is the best approach and will allow you to come back with a clear head, more relaxed and more focused.

They Are Committed - Options trading involves a great deal of commitment. Any time you have your own capital at risk, you should be aiming to get the most out of your investment strategies and controlling your risk. You need to be on top of your things all the time. When you stop paying attention to the market, you will get burned. You need to be staying abreast of the current news, market cycles and investment outlook. If you're a beginner options trader and find you're struggling with the commitment required to keep up to date with the market, or find you are suffering from information overload, there are many sites out there that provide great summaries of current market conditions.

They Have Back Tested Their Strategy - Backtesting is a key part of establishing your options trading plan. This involves checking your trading strategy against the market to check the past performance. The average investor may not have the capabilities to run these calculations on their own but there are a number of software providers out there that will be able to perform backtesting. Most brokers such as TD Ameritrade have backtesting software that is free to account holders. Backtesting allows you to evaluate the pros and cons of your strategy and also provides scope for improvement or alteration of your strategy. However, a few things to consider are:

* Make sure you are using an appropriate time period

* Take into account sectors

* Take into account commissions

* Past performance may not be a good guide to the future

For more details visit http://optionstradingiq.com