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Why Stock Is More Risky Than Options! |
By:
David Chandler |
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Why Stock Is More Risky Than Options!
by David Chandler
We prefer to trade in options rather than stock.
While many will tell you that options are high risk; even tell you horror stories about people losing everything trading in stock options.
Well, what is the truth?
I want to take a few minutes and look at stock ownership. What are the possibilities when you buy stock?
The stock price goes up.
The stock price goes down.
Its value can go sideways.
If the value goes up you make money. If it goes down you lose money.
However if there is sideways movement you will not directly gain or lose money. You will however incur costs through brokerage fees directly and indirectly lose money through what is know as "opportunity cost."
This is where you are unable to invest in new opportunities and therefore miss out on the potential profit.
In conclusion the only way you can profit when owning stock is when its value goes up.
OK, the next possibility is short selling stock.
Well yes, short selling stock is possible but it is quite a tricky strategy and has almost unlimited risk so it is certainly not an approach we recommend.
You see, when you short a stock, you actually sell a stock that you don't own. And your intention is to then buy the stock back at a lower price. The price difference is your profit per share.
Do you see what the risk is?
The risk is the value of the stock going up; especially if it goes up a lot!
Having sold the stock at a lower price you are forced to buy it back at a loss; these losses can be very high.
So, to summarize, when you trade stock you can really only make money if the price increases.
You also need to consider another aspect of owning stock and that is the cost; it can be very expensive.
In you buy 50 shares at $100 the stock will cost you $5000. Even if you buy it on margin the cost would be $2500.
In anyone's money that's a lot to find; it's also a lot to risk based on the fact that you only have a 33% chance of making a profit.
In addition to this, due to the unpredictability of stock trends you need to be able to get the timing right.
So stock trading is not that easy. And it's expensive.
But how do options offer an alternative?
To start with you have less of an initial investment. You can invest about 2% of the stocks value but still have the control over the stock.
Taking the example above that's investing $100 instead of $5000.
Add this to the fact if you get your game plan right you can profit no matter which way the stock price moves.
And finally, your risk is limited. The maximum you can lose is the amount you put into the trade. So in the example above - $100.
But the best thing of all is the leverage that options provide.
Taking the example above if the price were to go up by 10% then your profit would only be 10% or on margin 20%.
But with this increase in stock price the value of the option might increase by 100%. And so the profit on the trade would be 100% - or ten times that of the straight stock trade.
So by not accepting a commonly held view that the owning of stock is the least risky option you give yourself the chance of learning how to trade using options; opening up a good vehicle for your investments.
The above comments are offered for educational purposes only. We are not providing you with financial advice. We are simply sharing with you what has and hasn't worked for us personally. If you wish to trade or invest in the stock market you should obtain advice from a registered licensed advisor.
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Article Source: http://www.statssheet.com/articles/article55351.html |
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