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Anticipating the Likely Return on Options

April 5th, 2013

Calculating potential profit or loss on a variety of trades demonstrates that you often operate on thin margins. The judgment call as to whether a particular strategy will or will not be profitable is often based on consideration of a single option contract. In practice, you can cut your transaction costs considerably by using multiple
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An Overview of Basic Calculation for Calls

April 5th, 2013

On a realistic level, your calculations of returns on option trades should be possible with a desk calculator; it should be quick and easy; and the results should tell you all that you need to know immediately. For all long positions, the basic calculations are very straightforward. To review, there are various terms used to
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Annualizing Models and Guidelines for Options

April 5th, 2013

Annualize returns, not to establish a realistic expectation for outcomes on similar transactions, or to set goals for yourself, but to ensure consistency in comparisons. A discussion of annualization beyond the obvious technique is worthwhile. The basic concept is easily comprehended: If you have two option profits, both at 10 percent, they are not necessarily
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Calculating the Return on Options

April 5th, 2013

The return on your options trades can be complicated. When you consider the various elements, including your basis and profit in stock, dividends you earn, and the time your stock and option positions remain open, this is no easy matter. In Opening, Closing, Tracking: How It All Works, you found a useful summary for calculating
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Future Tax Issues with Options

April 5th, 2013

Tax problems and strategies have been made very complex by the current tax rules and, hopefully, future reforms will simplify those rules or make them easier to follow. However, taxes are only one of the many challenges you face in deciding how to plan your investment portfolio, determine which risks are acceptable, and protect capital
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Qualified Covered Calls—Special Rules

April 5th, 2013

The tax rules applied when you write in-the-money covered calls are exceptionally complicated. There are several rules to keep in mind to determine whether your in-the-money covered call is qualified or unqualified. With a qualified covered call, your stock does not risk losing its long-term capital gains status; if the covered call is unqualified, then
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Tax Ramifications in Trading Options

April 5th, 2013

An especially complex area of risk involves taxes. If you are like most people, you understand how taxation works, generally speaking. When it comes to options, though, a few special rules apply that can decide whether a particular strategy makes sense. Capital gains—taxable profits from investments—are broken down into short term or long term. The
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Evaluating Your Risk Tolerance

April 5th, 2013

Everyone has a specific level of risk tolerance—the ability and willingness to accept risk. This trait is not fixed but changes over time. Your personal risk tolerance is influenced by several factors: Investment capital. How much money do you have available to invest? How much do you have committed to long-term growth, and how much
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Risks with Trading Options

April 5th, 2013

A tremendous opportunity awaits anyone who considers including options in their portfolio. When you review the broad range of possible uses for options, it becomes clear that they can serve the interests of a wide spectrum of investors. At the same time, you need to recognize the broad range of risks in option investing, and
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Structured Index Options

April 4th, 2013

In addition to trading options directly, you can buy or sell positions in one of many “structured” products offered by one of the exchanges involved with index options. The CBOE offers many structured products aimed at specific index positions or strategies. Smart Investor Tip The CBOE offers options on over 40 market indices. To investigate
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Index Option Strategies

April 4th, 2013

Many of the strategies you can apply with stock-based options also work for index options. However, because settlement occurs in cash and not in stock, some stock-based exercise strategies will either not apply or will have different outcomes. Following are many of the possible strategies you might consider with index options: Purchase of index calls.
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Exercise and Expiration Rules

April 4th, 2013

Unlike stock options, which contain standardized terms for all listed companies, the rules for index options will vary based on the exchange and on the publisher requirements and rules determined when the index was created. The trading size of an index option is not uniform either, as it is with stock options. With stocks, each
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Advantages to Trading Index Options

April 4th, 2013

Many traders see an immediate advantage to trading an index rather than a number of individual stocks. By definition, an index tracks either a representative sample of the broader market or the whole market. It all depends on the number of issues included. For example, the Dow Jones Industrial Average (DJIA) has only 30 industrial
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Trading Index Options: Playing the Broader Market

April 4th, 2013

An index option is a special type of option, with the underlying not a single stock but a representation of the broader market. Popular indices on which index options can be traded include the S&P 500, the Dow Jones Industrials, and many others. The market for index options has been expanding rapidly in recent years,
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Regulatory Differences Between Stock and Future Options

April 4th, 2013

Many of the differences between stock and futures options involve not only methods of trading but also how the industries are regulated. Virtually all listed options on stocks are traded electronically, meaning execution is instantaneous or nearly instantaneous in most cases. However, although some futures exchanges use electronic trading, the prevailing method is open outcry,
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Differences Between Stock and Future Options

April 4th, 2013

There are many important differences between listed options based on an underlying stock, and options on a futures contract. With a stock, the option is tied to 100 shares of stock and is a derivative of those shares. A futures option, however, is a type of derivative on a derivative. The futures contract itself exists
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Leveraging Your Leverage

April 4th, 2013

Some traders assume that trading options on futures contracts is the same as trading options on stocks. This is not identical. Although the basic distinctions and definitions of options are the same in all instances, trading options on futures contracts (also broadly called commodities) involves special risks and qualifications. In the 1980s a new investment
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Swing- and Day-Trading Advanced Strategies

April 4th, 2013

Most examples you see usually involve single option contracts, for the sake of clarity. However, swing and day trading do not necessarily have to be limited to single contracts to control 100 shares of stock. Especially when option premium levels are quite low, using multiple contracts saves on brokerage fees while increasing profit potential. In
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Options Used for Other Trading Strategies

April 4th, 2013

Swing trading is only one of many possible trading strategies in which options can play a valuable role. In fact, swing trading is an extension of a better-known strategy called day trading. The day trader typically moves in and out of positions within a single trading day, so that the open positions do not extend
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A Strategic View of Options for Swing Trading

April 4th, 2013

The success of a swing-trading program relies on following the rules: identifying the setup after an uptrend or downtrend and acting quickly to take advantage of the short-term price swing. But many stock-related considerations should be kept in mind as well, including: Selection of stocks based on value. No matter what potential profits you might
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