Monthly Archives: July 2012
Posted by sellacalloption
Ten Often Repeated Misconceptions about Option Trading
#1- Options should only be used by professionals
Not true, the use of options has become more widely accepted over the last several years. Today’s modern retail brokerage platforms and tight option spreads put individual investors on the same playing field as the pros. It has been shown in numerous studies that using options can enhance return and lower risk in your portfolio.
#2- Options should only be used in an IRA or tax deferred account
Some people think that due to possible high turnover from using options can create a tax headache. That also is not true. Options can be bought or sold long term and the portfolio turnover is something that can be controlled. Today’s tax reporting software make it very simple to report even if you do have high turnover, like from a strategy of selling covered calls on a monthly basis. The IRS will allow an investor to attach a realized gain/loss statement from a brokerage instead of completing the schedule.
#3- Individual investors get taken advantage of in trade execution
In the old days the market makers controlled the game and the bid ask spreads were wide. Today’s electronic markets are very efficient and competitive. Many issues now trade in penny increments. Investors no longer get taken advantage of by the market makers.
#4- Option trading only works when markets are volatile
Options can help enhance the return on your portfolio regardless of whether the volatility is high or low. There are different strategies that can be used to profit or protect your portfolio when the volatility is rising or when the volatility is falling.
#5- Option trading is not for young investors
Some people say that option trading is good only for highly sophisticated investors with years of experience and a high net worth. That is another misconception that is not true at all. Younger investors with a growth objective may want to purchase long term options on the market or an individual stock to participate in the upside of the market, but limit their downside risk to the amount of the premium paid for the option.
#6- The trades are hard to execute and require experience
Another common falsehood, today’s modern platforms and options chains make it quite simple to enter trades with very little room for trade errors. It only requires a little learning to be able to execute option trades.
#7- Brokerages that are good for options are not suitable for equities or ETFs
Not true, today the main stream brokers all have pretty good option platforms and the firms that specialize in options also have some very good platforms for stocks and ETFs.
#8- You need to spend a lot of time and money on options trading education
That’s another one that may have been true at one time, but does not apply anymore. Most of the brokerages have some good educational materials. The Options industry Council, OIC, has some excellent free education on their website. The Chicago Board Options Exchange, CBOE, also has a wealth of free information. There are many books worth studying as well.
#9- Options traders are greedy short term speculators
Nothing could be further from the truth. Options can be employed by long term investors to reduce risk and produce income. Cash secured puts can be sold to target an entry price on a stock or ETF for a long term hold and the returns can be favorable. Covered calls can be used for income generation in today’s record low interest rate environment.
#10- Options trading popularity will die off
The volume in options trading has been expanding recently. The ETF explosion has led to more and more options volume. The use of options is becoming more widely accepted than ever and will continue to increase.