Lesson #1: What are Options? / Lesson #2: How options are priced / Lesson #3: Calls and Puts / Lesson #4: How options increase in value / Lesson #5: Times and Options / Lesson #6: Strike Price / Lesson #7: In, At and Out of the Money / Lesson #8: Option Risks / Lesson #9: Writing Options

When you buy and sell options on the options market, there are a number of inherent risks. These risks must be fully understood before you invest in Options. Please read the Options Clearing House characteristics and risks of Option Trading. The link is located at the bottom of this page!

Time is your enemy, if you are an Option buyer.

The major difference between purchasing stock and purchasing options, is the time factor. Where time can be your friend in a stock purchase, it is your enemy when you purchase an option. All options have an expiration date and as soon as you buy an option its value immediately begins to degrade due to loss of time. It should be noted that the time loss value increases as it gets closer to expiration.

When purchasing an option you must not only be right about the direction the underlying stock will go, but you must be right about when this move will happen. If you make a mistake in the timing, even by a couple of days, you could lose what you paid for a option.

It's all or nothing

One unusual feature of the options market is its all or nothing perspective. If the underlying stock goes opposite of what you expected, the option's value can rapidly decrease. Traders are often caught off guard by how rapidly options can lose their value. The rapid loss is due not only to the decreasing stock value, but is compounded by the loss of value due to time deterioration. The greater the movement of the stock in the wrong direction, the less likely it is to recover in the time remaining in the life of the option. Of course, on the other side of the coin, if you called the stock direction right, its easy to see your investment quickly double.

 

Comparing Stock investments with buying Call and Put option investments
Action	Stocks	Options
Time	Can be your friend.	Always your enemy. Lose value every day that passes.
Expiration date	Stocks never expire	Options have set expiration dates
Declining stock value	Stocks still hold some value	(OTM) Options will expire worthless.
No stock movement	Stocks hold their value	(OTM) Options will expire worthless
Small increase in value	Stock will increase in value	Options may not increase in value with small stock movements
Stock price declines	Stocks decline in relation to loss of value	Declines can be rapid compounded by stock loss and time loss

Neutrality is your enemy

When you buy an option, the underlying stock can do one of three things. First it can go in the direction you believe it is going to go. If it does, then there is a good chance you will get a return on your investment. The second thing it can do is go the opposite direction. If it does that, you may lose the full value of your investment. The third thing that could happen is that the stock goes into a holding pattern. If the stock price basically stays in neutral, the price of your option will expire worthless, because of decreasing value due to time loss (This is for options out of the money, if the option still in the money there is value in the option, or by exercising the option).

In some instance, the option may lose value even if the underlying stock is going in the direction you hoped it would. This is because the value of the time loss exceeds any increase in the value of the option due to changing stock prices.

This is where stocks and options diverge significantly. Where stocks will still hold some value in neutral and declining markets, options stand to lose all their value.

Inaction is your enemy

When you buy the option, the purchase price is non refundable and you can only make a return on your option, if you either sell the option before expiration date or exercise the option. Failure to act before expiration date, means the (OTM) option expires worthless and you lose everything you invested.

Some have lost money even when their option was profitable because they failed to act before expiration date or failed to exercise their option. Some stock brokers will now automatically exercise your option and purchase the underlying stock on your behalf provided there is a profit in it for you.

This differs from the stock, though you may fail to sell a stock at its most profitable moment, it can still have some inherent value. Options out of the money (OTM)lose their value at expiration date.

Even is your stock is moving in the wrong direction, it is possible to recoup some of your losses by selling the option prior to expiration. However, you will often only get pennies on your dollar investment.

Every person interested in trading Options must read the, Characteristics And Risks of Trading Options.