It is often thought that investing and trading are on two opposite ends of the spectrum and cannot co-exist together. You either choose to be a long-term investor or a short-term trader. However, I think otherwise and in this article, I am going to share with you 4 ways how you can have the best of both investing and trading, so you can build your wealth faster.
Before I start, it is important to refresh the concept of trading and by trading, I am referring to trading options. The concept of options is simple, try to see it as a kind of insurance, where you can buy to anticipate or protect against the future price movement of an underlying stock. You can also be the options seller and play the role of an insurance company.
An options contract is worth 100 shares, though it may not necessary to own 100 shares if you are a certain type of option buyer (I will explain this further in the latter part of this article).
To help you understand the concept of options better, I compile quite a number of articles, written in layman’s terms, to help you understand the concept and fundamentals of how options work, in this thread:
The Newbie’s Guide To Options Trading
Strategy 1: Own Shares + Sell Covered Call Against Your Shares
This is a good way how you can continue to earn extra income through the shares you own in your investment portfolio.
Let’s assume you currently own 100 Apple shares that you have accumulated over the years. You will gain some returns on your investment if the current share price of Apple is higher than your average price of Apple shares and you choose to sell your shares for a profit.
Alternatively, Apple also pays dividends, which is around 0.55% per annum based on the current price of USD171.83. Do note that you will have to deduct a further 30% for your dividend payout for dividend tax if you are not a US citizen or green card resident. Thus, the dividend yield after-tax deduction is around 0.385%.
So, if you think that the dividend yield is not attractive or you do not wish to sell your Apple stocks because you believe in its long-term potential, what you can do is open (sell) a CALL option contract on your 100 Apple shares.
In a CALL option contract, the seller agrees to sell his shares if the share price is above a particular agreed price, otherwise known as the strike price, upon expiration of the contract. In return, the option contract seller received a premium.
While holding Apple shares for its long-term gain, you can sell 30-days Out-of-The-Money (OTM) CALL option contracts to earn an extra sideline income every month. OTM means the strike price (the price you agree to sell) is higher than the current share price when the contract is opened. If the strike price is also your breakeven price, then you will earn a profit when the option contract is exercised, on top of collecting a premium when selling a covered CALL contract.
You can refer to some examples of selling CALL options here:
[14 April 22 Trades] Rolling Tesla Covered CALL Options For USD440 Profit In 2 Days
[3 Feb Trades] As Market Falls, I Continue To Sell Covered Call, OTM Call This Time Round
Strategy 2: Selling PUT Options To Buy Shares At A Lower Price
Let’s say you are a super fan of the Apple company, you love its high-quality products, you own a suite of Apple products, you are blown away by the company’s huge cash reserves and being the most valuable company in the whole world.
At the current price of USD155, it may be a little out of your budget to buy 100 shares of Apple stock. So, here is how you can own Apple shares at a lower price. You sell a PUT contract at a strike price (agreed contract price) of USD155.
Essentially, what you are agreeing with the buyer of the contract is that, if Apple’s share price falls below USD155 on the expiration date, you will buy 100 shares at USD155. In selling this PUT contract, you will get paid a premium, e.g. USD5 per share. That means that your average (breakeven price) is now cheaper at USD150 (155 – 5) because you get to subtract the premium off the strike price of USD155 that you are paying.
What if Apple rises above USD155 on the expiration date? There is no need to buy any shares, so you collect the premium of USD500 (5 x 100) without being obliged to do anything. You can do whatever you want with the premium, such as buy some nice stuff for yourself or use it to offset your future stock purchase.
You can refer to some examples of selling PUT options here:
I Close My Nvidia PUT Option Contract and Made $1405 (5.98%) in 12 days
How I Made USD$9,827 In 3 Trading Days Using The Easiest Option Strategy
Strategy 3: Buying PUT Contract To Hedge Against Your Underlying Shares
If you are a long-term investor in Alibaba but the share price just keeps falling. You feel depressed because your shares are losing their value and your paper loss is increasing. If you do not wish to sell away your shares to cut loss because you still believe that Alibaba will go up in the future, you can buy a PUT contract to hedge against your loss.
In a PUT option contract, the buyer is able to sell his shares at the strike price if the share price falls below the strike price on the expiration date, which means even if the share price crashes to 0, the buyer will still be able to sell his shares at the agreed strike price.
Let’s illustrate this using Alibaba as an example.
Assume you bought Alibaba shares at USD150. The share price rose to USD300 during the bull run of 2021. However, due to rising interest rates, delist fears, and China’s crackdown on big tech companies, the share price started falling. When the share price fell to USD250, you started to get worried. So, you bought a PUT option with a strike price of USD200, in anticipation of a free-falling market ahead.
When the share price of Alibaba eventually dropped below USD200 and kept dropping by the day, you can have the option of waiting for the contract to be exercised on the expiration date by selling Alibaba at USD200. So, even if Alibaba crashes to USD10, you will still be selling Alibaba shares at USD200 and making a profit of USD5,000 ((200 – 150) x 100). The final profit will minus away the premium paid for the PUT contract.
Alternatively, as the share price falls after the contract is established, the premium will increase in value and the buyer can actually sell off his PUT contract at a higher price than when he bought it.
See this trade as an example:
[14 March 22 Trades] Closed My Covered Call Positions, 75% Returns On Alibaba PUT Contract & 3 x Tesla LEAPS
Strategy 4: Buying CALL Contract To Lock in Share Price Before Future Gain
If you are super bullish on Tesla stock as you foresee massive positive catalysts ahead. However, you do not wish to all in and buy Tesla’s stock, especially Tesla’s share price is not cheap at USD800. What you can do is to buy a CALL option contract which allows you to buy the shares at a agreed price (strike price), in the event the market share price surpasses the strike price.
Let’s assume that Tesla’s earnings and delivery are coming up and you have a high conviction that it will blow away all expectations. However, you wish to err on the side of caution. If Tesla is trading at USD800, you can buy a CALL option to buy Tesla shares at a strike price of USD850 and pay a premium for this contract.
If Tesla’s share price rose as you have expected to USD1,200, you will still be able to buy the shares at USD850. Alternatively, you can also sell away your contract as the premium will increase to a higher value than the amount that you bought previously. The difference in premium will be your nett profit.
However, if for some mysterious reason, Tesla’s share price crashes to USD200, you will at most lose the premium that you paid for the CALL option contract. This is a better and less risky scenario as compared to purchasing a large volume of Tesla shares and suffering a great loss when the share price crash.
Concluding Thoughts
Some people may see options as a risky tool and try to avoid it at all costs. However, I believe that options, when used in a right way, can benefit us who are long term investors. Like a knife, it can hurt you if you hold the blade but it can also help you cut your meat and vegetables if you know how to use it. Avoiding it altogether for the fear of getting hurt will also deprive you of the marvels behind this tool.
*** FREE RESOURCES ***
Keen to learn about options trading but do not wish to pay for expensive courses, this newbie guide will help gain the knowledge and fundamentals to understand options better. And it’s totally free!
The Newbie’s Guide To Options Trading
The LEAPS Strategy has helped me make more than USD120,000 in 2021. Here’s all you need to know about this strategy that can help you increase your wealth exponentially:
The Ultimate LEAPS Options Thread
Looking for ideas on what stocks to invest in or which stocks to trade? You can take reference from what I have been buying or selling. I try to update them as soon as I can in this section, as well as share my thoughts on executing these trades:
MY TRADES
If the bear market in 2022 is making feel depressed as your stocks come tumbling down, read this article to find out how you can use options trading to help you claw back some of your losses as you await market recovery:
How I Do Earn Even When The Stock Market Is Bearish?
Also, check out my trading strategies in different market conditions, whether it is bullish, bearish or volatile:
How Not To Lose Money In Trading? | My Trading Strategies For Bullish, Bearish And Volatile Market
I watched tons of videos on YouTube since 2020 and if you are wondering if there are any useful channels that you can subscribe to for learning market trends, TA, FA, check out this compilation here:
My Secret Weapons For Options Trading: I Watch These YouTube Financial Channels Every Day
I concluded my first year of options trading with more than USD160k of gain, see how I do it and the capital I use for every month to give you a sensing of the percentage yield I get out of my gains:
1st Year Options Trading Recap: The Journey Towards SGD$217,509 Profits In 2021
This blog is as authentic and as transparent as I can share, I do not just show the wins and hide the loss. I have made some very bad decisions in the first 8 years of investing and paid a huge price for them. Here is the loss I have accumulated during these years. I hope you learn some lessons from my mistakes.
I Cut $135,715 Worth Of Losses In The Last 1.5 Months
Want to learn more about Technical Analysis (TA) but find it difficult to grasp the concepts? This article brings you TA at a glance, and helps you understand key terminologies, indicators, and techniques used in TA to equip you with the knowledge that can empower you in your investing/ trading journey.
The Newbie Guide To Technical Analysis (TA)
Excited to start your trading journey or perhaps try out with a paper trading account to build your confidence in trading? Check out this step-by-step to help you get started:
How To Buy Options on Interactive Brokers (Step-By-Step)
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Learning Investment With Jason Cai 