The objective of the Option Sleuth is educate the investor on how a managed option strategy as part of a diversified portfolio can generate additional income and boost returns.

There are two basic types of options: the call and the put.

A call is an option contract that gives the holder the right to buy the underlying security at a specified price for a certain, fixed period of time.

A put is an option contract that gives the holder the right to sell the underlying security at a specified price for a certain, fixed period of time.

Option contracts may be opened as a buy (long positions) or a write (short positions).

The following common option strategies are defined in terms of a net long position, however each strategy may also be opened as a net short position.

• Buy a call
Outlook on the underlying equity: Positive
Potential gain: Unlimited
Potential loss: Limited to price paid for call

• Buy a put
Outlook on the underlying equity: Negative
Potential gain: Limited to the value of the equity
Potential loss: Limited to price paid for put

• Buy a call spread (buy a call and sell a higher strike call)
Outlook on the underlying equity: Positive
Potential gain: Limited to spread value less price paid
Potential loss: Limited to price paid for spread

• Buy a put spread (buy a put and sell a lower strike put)
Outlook on the underlying equity: Negative
Potential gain: Limited to spread value less price paid
Potential loss: Limited to price paid for spread

• Covered call (buy equity, sell higher strike call)
Outlook on the underlying equity: Positive
Potential gain: Varies
Potential loss: Limited to value of equity less price received for call

 
 
 
 

Sunday, June 14, 2009

Volatility Trading by Euan Sinclair

This week's featured book on options trading:

Volatility Trading plus CD-ROM by Euan Sinclair

Volatility Trading (book and CD-ROM)
by Euan Sinclair
Wiley (June 2008)

From the publisher: In Volatility Trading, Sinclair offers you a quantitative model for measuring volatility in order to gain an edge in your everyday option trading endeavors. With an accessible, straightforward approach. He guides traders through the basics of option pricing, volatility measurement, hedging, money management, and trade evaluation. In addition, Sinclair explains the often-overlooked psychological aspects of trading, revealing both how behavioral psychology can create market conditions traders can take advantage of-and how it can lead them astray. Psychological biases, he asserts, are probably the drivers behind most sources of edge available to a volatility trader.

Your goal, Sinclair explains, must be clearly defined and easily expressed-if you cannot explain it in one sentence, you probably aren't completely clear about what it is. The same applies to your statistical edge. If you do not know exactly what your edge is, you shouldn't trade. He shows how, in addition to the numerical evaluation of a potential trade, you should be able to identify and evaluate the reason why implied volatility is priced where it is, that is, why an edge exists. This means it is also necessary to be on top of recent news stories, sector trends, and behavioral psychology. Finally, Sinclair underscores why trades need to be sized correctly, which means that each trade is evaluated according to its projected return and risk in the overall context of your goals.

As the author concludes, while we also need to pay attention to seemingly mundane things like having good execution software, a comfortable office, and getting enough sleep, it is knowledge that is the ultimate source of edge. So, all else being equal, the trader with the greater knowledge will be the more successful. This book will provide that knowledge.

Also available: Volatility Trading (Kindle edition). Learn more about the Amazon Kindle, a wireless reading device.

Posted by Your Community Resource Guide to Wine, Style, and Finance. at 2:58 PM

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