No doubt you’ve got some stocks in your retirement fund, and maybe you’ve branched out and gotten into some of the hot “story” stocks that seem to always be making headlines. Perhaps you’ve even gotten into some good dividend-paying plays so that you benefit not only when a stock goes up, but also when it makes those extra payments that you can use as an additional source of income.
You can use options in your portfolio as a supplement, similar to a dividend, to make your stocks work harder for you. But what really gets me jazzed are the option plays that you initiate with your “fun” money — the ones where you don’t have to touch a single share of stock in order to turn a profit.
Unlike stock investing, where you buy shares and wait for the value to go up, you can use options independent of your long portfolio to profit no matter which way the market is trending. Even better, compared to buying stock positions that could cost you thousands — if not tens or hundreds of thousands — of dollars, options allow you to control the same number of shares for just pennies on the dollar.
As an option buyer, you get to participate in the underlying stock’s movement without a huge capital outlay. For example, we recently recommended a Delta Petroleum call option. In the week and a half it took for the shares to go from $17.80 to $21.50 (a 20% increase), our options went from $1 apiece to $2.40 — a 140% jump in the same time frame!
The reason we can make these types of triple-digit profits is because we’re buying inexpensive options. We more than doubled our money with those Delta Petroleum calls, but the real magic is in how we made a similar profit to the stock buyer without the same high-dollar investment.
The investor who bought 1,000 shares at $17.80 spent $17,800 to initiate his position. The 20% pop in the shares translated into $3.70 per share, or a $3,700 gain. Not bad for a stock to achieve in a little more than a week.
My subscribers got into the December 20 Calls when I recommended them in October at $1 per share ($100 per contract, as a contract represents 100 shares of the underlying stock), or $1,000 for the same thousand-share position as the long-side investor.
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Look at it this way, the option investor spent $1,000, preserved it and pocketed an extra $1,400 — on top of their original investment dollars! Meanwhile, the stock investor risked nearly $18,000 and eked out a 20% gain for their trouble.
Like stock-buying, the risk that comes with option-buying is limited to what you pay for it. So, wouldn’t you want to risk as little as possible if it meant you could still be positioned to take advantage of the same stock move?
Suppose the stock didn’t go up in the time frame we expected it would. For the most part, good stocks go up and bad stocks go down. However, you never know when a CEO will be caught tapping his foot in an airport restroom or a bank announces that it’s drowning in bad debt and may have to cut the dividend it once provided to loyal shareholders.
The best company/stock in the world can be susceptible to a damaging headline, and many drop on good news or even no news, too.
If that had been the case with Delta Petroleum, shareholders could have lost part or even all of their original $18,000 position. But even if the stock went kaput, those who bought the call options for $1,000 — reflecting that same amount of shares as the bigger, riskier $18,000 position — couldn’t have lost a penny more than what they put into that trade.
As you can see, trading options can let you double your money in a matter of days. And we put a whole lot less money on the line than traditional stock investors do.
There’s nothing wrong with owning a stock and enjoying steady returns over time. But when you want to make profits in a hurry without fronting the capital it takes to buy shares outright, be glad you have “options”!
If you enjoyed this article, check out Ken Trester’s “Use Trailing Stops to Protect Call and Put Option Profits” and Dawn Pennington’s “Synthetic Call Options Similar to Real Deal.”
