Personal & Professional Development Seminar
Tuesday, October 2, 2012
Two Events – 12:00 PM and 6:00 PM
The Courtyard by Marriott Tacoma Downtown
1515 Commerce Street
Tacoma, WA 98402
During This Interactive Workshop, We Will Teach You About:
- How certain strategies could help you make 2%-10% profits per month.
- How to identify trades with a statistical probability of success in the 90% range.
- How to make money if the market moves up, down or sideways.
- How to spend only a few minutes per day on your portfolio.
- How to limit risk in your portfolio.
- The basics of fundamental and technical analysis.
- How to adjust a trade that moves against you and turn it into a winner!
- How to never risk more than 5% of your account in any one trade.
- Taking complete control of your financial future!
An option is a contract that gives the owner the right to buy or sell a specific underlying security, for a certain price, for a set period of time. Each contract usually relates to 100 shares of stock; 1 contract = 100 shares, 5 contracts = 500 shares, 10 contracts = 1,000 shares, and so forth. In general, there are just two types of options; calls and puts. A call option gives the owner the right to buy the underlying equity for a specific price while the put option gives the holder the right to sell the underlying equity at a guaranteed price. Think of a call option as a coupon and a put option as an insurance policy. Most investors who think the price of an equity is going up may purchase a call to make profits, while someone betting that the price of a security will drop, may buy a put. Much like using a telephone, you call up, and put down. Pretty simple.
Myths About Trading Options
“Options Are Too Complicated”
This is nonsense! In many ways, learning to trade options is easier than learning to trade stocks. Think of it like this; there are only two types of options, puts and calls. Puts allow you to bet that the price on a security is going down, and calls allow you to make money when the price of of your equity goes up. Pretty simple, right? And if you limit the number of securities on which you trade options, you make things even easier on yourself.
“Options Are High Risk”
They certainly can be! So can flying or driving a car. It’s all depends on the operator. Where it’s true that some options are highly risky, there are trades available in the options market that will appeal to the most conservative investor. The beauty of options is that you get to choose your approach based on your own unique level of risk tolerance.
“Most People Who Trade Options Lose Money”
Options are a zero sum game, which means that on every trade there is a winner and a loser. There are also commissions to factor into the equation. In our experience, speculators trying to ‘make a killing’ typically end up losing money, while more sophisticated traders with a solid plan, end up with the lions share of the profits. Our advice; don’t take high risk trades unless you can afford the expected loss.
“80% Of Options Expire Worthless”
This widely accepted notion may or may not be true. It will depend on the option selected. Options that trade out-of-the-money are highly likely to expire worthless. Options with a strike price (exercise price) at-the-money have a 50/50 chance of finishing in the money. And options which trade in-the-money are highly likely to finish in the money. You have the choice to only take trades that are probable to finish with a profit.
“Options Are For Speculators”
This is another very common misconception. Many options traders use options instruments to hedge other investments in their portfolio. An example would be purchasing a put against a stock you currently own to protect against a price movement to the downside. Or buying a call options against a stock you have sold short in order to cap your loss on the position. You could even sell call options against a current equity to generate income while taking no risk at all on this options trade. Options are for much more than speculating on the direction of a security.
“Trading Options Requires A Lot Of Capital”
Most brokerage firms will allow investors to open an account with just a few thousand dollars. Because options are a leveraged investment, a little bit of money can control a substantial amount of a stock, ETF, or index. One of the most attractive features of trading options is that it requires a limited amount of capital.
“You Should Start By Trading Stocks Before Trying Options”
That’s like saying that you should learn to ride a horse before trying to drive a car. They are two different animals. The challenge with this philosophy is that it takes a lot of capital to play in the stock market. If you were interested in owning IBM, and say that the stock were trading for $200 per share, 100 shares would set you back $20,000! Plus, you have $20,000 at risk. Instead, you could control 100 shares of IBM for a fraction of the investment.
When you dig a little deeper, you will find that most of the myths perpetrated regarding options are offered by individuals who have absolutely no idea what they are talking about. If you want to know the truth about trading options, talk to an options trader. The reason they trade options is that it works, provided you have the right approach.
Advantages of Trading Indexed Options
Options based on indices rather than individual stocks provide investors with diversification.
In finance, a text book will tell you that diversification means the removal of unsystematic risk. However, if you’ve ever come across the saying “don’t put all your eggs in one basket” then you have already been introduced to the concept of diversification. It basically means spreading your investment across multiple assets, in this case, multiple stocks with the objective of reducing (or evening out) your overall risk.
A stock index is a compilation of many stocks. The S&P 500 is meant to resemble a portfolio made up of 500 individual companies. Index options based off the S&P 500 (SPX) give option traders the chance to construct option strategies and techniques to bet on the entire market rather than the performance of one individual stock. The Russell 2000 is made up of 2000 small cap companies.
I don’t mean to infer that index options are easy to predict. But index options are generally less volatile than the component stocks that make up the index.
Earnings reports, takeover rumors, news and other market events are what drive volatility in individual stocks. An index tends to smooth out the wild ups and downs of the stock basket and hence options based off an index will also show lower fluctuations.
Index options are very popular for option traders, hedge funds and investment firms. This popularity drives up the volumes available to trade and reduces the spreads quoted in the market. This competition means that you will always have a fair price to trade at and plenty of volume too.
European Style Expiration
All standardized equity options use American-style exercise. American-style exercise means that operationally you can exercise your contract any day that the market is open before the expiration date. The last day to exercise an American-style option is usually the third Friday of the month in which the contract expires (expiration Friday). Most index options, however, use European-style exercise. This means that the only time you can operationally exercise your contract is the last trading day (usually Friday) before expiration. Remember, even though there is only one day in which you can exercise your contract, you can always close out your option position in the secondary market any day prior to expiration. This means that you have until expiry to adjust your trade without fear of an early assignment of the underlying security.
Section 1256 Contracts Marked to Market
Trading broad-based index options for taxable accounts can have some favorable consequences when paying federal income taxes. The IRS has a provision known as a Section 1256 Contracts Marked to Market. A section 1256 contract is any:
- Regulated futures contract,
- Foreign currency contract,
- Non-equity option,
- Dealer equity option, or
- Dealer securities futures contract.
Broad-based Index Options
The third item in this list, non-equity option, is of interest for trading index options. The IRS defines a non-equity option as “any listed option that is not an equity option.” According to the IRS, non-stock options include debt options, commodity futures options, currency options, and broad-based stock index options. A broad-based stock index is based upon the value of a group of diversified stocks or securities (ten or more). Standard and Poor’s 500 index is one example of a broad-based stock index.
Generally, capital gains from stock or stock option investments held less than one year are considered short-term and those held longer than one year are considered long-term. However, according to the IRS, under the marked to market system, 60% of a capital gain or loss may be treated as a long-term capital gain or loss and 40% may be treated as a short-term capital gain or loss, even if the position was held for less than a year. The ramification of this rule is that capital gains or losses considered to be long-term have lower marginal tax rates than short-term capital gains or losses, and index options on broad-based indexes qualifying under the 60/40 rule have a more favorable tax treatment over options on equities considered short-term investments.
For example, for a short-term capital gain with a marginal tax rate of 35%, the marginal taxes on a $1,000 capital gain would be $350 and for a long-term capital gain with a marginal tax rate of 15%, the marginal taxes on $1,000 would be $150. Using the 60/40 rule, 60% of the capital gain, $600, would be taxed at 15% and 40% of the capital gain, $400, would be taxed at 35%, so the taxes paid under the 60/40 rule would be $90 for the portion considered long-term and $140 for the portion considered short-term for a total of $230 which is $120 less than if the total capital gain were considered short-term. The composite marginal tax rate for this example of the 60/40 rule is 23%, 12% less than the 35% rate for short-term capital gains and represents paying 34% less in income taxes.
About Steven Sitkowski
Steven Sitkowski, founder
Steven Sitkowski has spent his entire professional life in the financial services industry. He knows the financial landscape from the vantage point of an experienced insider. He has been a Certified Financial Planner, Registered Investment Advisor, ran a two billion dollar stock brokerage operation, has been a general and limited partner in real estate holdings, and was president of two financial planning organizations. Steven has held licenses in real estate, securities, insurance, and as a mortgage broker. Mr. Sitkowski has been the host of a nationally syndicated radio talk show and has lectured to over one million people in the United States, Canada, and England. Audiences love his “tell it like it is” communication style. Steven has shared the stage with personalities such as; Tony Robbins, Jim Rohn, Zig Ziglar, Mayor Rudy Giuliani, Dr. Robert Schuller, Charles J. Givens, and Robert Allen. Mr. Sitkowski is the author of 30 Day Money Makeover, available on Amazon. Steven is an active options trader and prides himself on identifying trades that generate 5-20% monthly returns with a statistical probability of success in 80-90% range.