How to Weather out Flat Markets Using Options

Submitted by Stock Market News on 1 June, 2011 - 15:26

How to earn income through shares using options trading

The other black hole for traders, apart from falling share prices, is a neutral market. The price doesn't budge and settles in a limited range for a long period of time. During this time traders make little money and pay from dividends. They sell their position or hold in hopes that the share price moves up. Option offers an alternative to this scenario by buying call options over your stock. The bought call is covered by the shares.

Income

Calls enable traders to earn even in flat markets. With this strategy, time and a fall in volatility works with you rather than against you which is common in options trading. You can close out your position at a profit by buying back the call option for less than you received when you wrote it. You can also let the option expire and earn your premium back.

Protection

The premium you get receives from the the risk of a falling share price. In case the share price drops, the call will subsequently lose its value and you make money out of the option. The profit will at least compensate you from the loss of your shares.

Price

Instead of retaining your shares you can write calls to get a better sale price that you can get from selling on the market. For example your shares are $7.00 at expiry. If you did not close out your position you have to sell the share, but in the process you retain your premium and get a sale price of $7.50, which is the exercise price plus the premium received.

Writing call options over your stocks has its advantages but be sure to remember inherent risks. As with most trades, a potential loss may happen if the market behaves in a totally different direction than you expect, particularly when the price drops too low or soars too high.

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