What is an Option?
There are many types of financial options. Here at TradeWithPros we are always referring to equity options or simply, stock options. When you buy a stock, you purchase an equity participation in a company. Technically, you actually own a piece of that organization. An option is a separate financial instrument whose value is based on the underlying stock. You do not own a piece of the company, but you get to benefit from stock price movement.
Used correctly, options give the trader a way to profit from the movement in equities at a fraction of the cost of investing in stock. Following solid money management and risk control methods, options present no more risk than the stock itself.
For example, instead of purchasing Starbucks stock at $26.50 a share, we purchase the January 2009 $15.00 strike for $12.60. As Starbucks stock price rises, the value of this option will rise dollar for dollar with the stock. If Starbucks rises $1.00, which would you prefer, 3.7% return on the stock purchase or 7.9% return on the stock option? Peak your interest? Click Calls and Puts to learn more about options.