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Disadvantages of Option Trading

1.    Taxes.  Except in very rare circumstances, all gains are taxed as short-term capital gains.  This is essentially the same as ordinary income.  The rates are as high as your individual personal income tax rates. Because of this tax situation, we encourage subscribers to carry out option strategies in an IRA or other tax-deferred account, but this is not possible for everyone.  (Maybe you have some capital loss carry-forwards that you can use to offset the short-term capital gains made in your option trading).

2.    Commissions.  Compared to stock investing, commission rates for options, particularly for the Weekly options, are horrendously high.  It is not uncommon for commissions for a year to exceed 30% of the amount you have invested.   Be wary of any newsletter that does not include commissions in their results – they are misleading you big time.

3.    Wide Fluctuations in Portfolio Value.   Options are leveraged instruments.  Portfolio values typically experience wide swings in value in both directions.

The most popular portfolio at Terry’s Tips (they call it the Weekly Mesa) gained over 100% (after commissions) in the last 4 months of 2010.  The underlying stock for the Weekly Mesa is the S&P 500 tracking stock, SPY, one of the most stable of all indexes.  Yet their weekly results included a loss of 31.3% in the last week of November (they have added an insurance tactic to make that kind of loss highly unlikely in the future, by the way).  Three times, their weekly gains were above 20%.

Many people do not have the stomach for such volatility, just as some people are more concerned with the commissions they pay than they are with the bottom line results (both groups of people probably should not be trading options).

4.    Uncertainty of Gains. In carrying out option strategies, most prudent investors depend on risk profile graphs which show the expected gains or losses at the next options expiration at the various possible prices for the underlying.  These graphs are particularly important to check out when placing initial positions, and it is also wise to consult them frequently during the week as well. 

Oftentimes, when the options expire, the expected gains do not materialize.  The reason is usually because option prices (implied volatilities, VIX, - for those of you who are more familiar with how options work) fall.   (The risk profile graph software assumes that implied volatilities will remain unchanged.).   Of course, there are many weeks when VIX rises and you might do better than the risk profile graph had projected.   But the bottom line is that there are times when the stock does exactly as you had hoped  and you still don’t make the gains you originally expected.

With all these negatives, is option investing worth the bother?  We think it is.  Where else is the chance of 100% annual gains a realistic possibility?  We believe that at least a small portion of many people’s investment portfolio should be in something that at least has the possibility of making extraordinary returns.

With CD’s and bonds yielding ridiculously low returns (and the stock market not really showing any gains for the past 4 years), the options alternative has become more attractive for many investors, in spite of all the problems we have outlined above.

Terry's Tips Stock Options Trading Blog

July 30, 2015

Long-Term Options Strategies For Companies You Like

Today I would like to share an article I sent to paying subscribers two months ago. It describes an 8-month options play on Facebook (FB), a company that seems to be doing quite well these days. The spread is a vertical credit put spread which I like because once you place it, you don’t have to make any closing trades (both options hopefully expire worthless, all automatically) as long as the stock is any higher than a pre-determined price. It is actually quite simple to do, so please don’t tune out because its name sounds so confusing.

Terry

Here is the exact article sent out on April 24, 2015:

“A Long-Term Play on Facebook (FB): Last week in my charitable trust account I made a long-term bet that FB would not fall dramatically from here during the balance of 2015. It seems to be a good company that is figuring out how . . .

June 27, 2015

5 Option Strategies if you Think the Market is Headed Lower

A subscriber wrote in and asked what he should do if he thought the market would be 6% lower by the end of September. I thought about his question a little bit, and decided to share my thoughts with you, just in case you have similar feelings at some time along the way.

Terry

5 Option Strategies if you Think the Market is Headed Lower

We will use the S&P 500 tracking stock, SPY, as a proxy for the market. As I write this, SPY is trading just below $210. If it were to fall by 6% by the end of September (3 months from now), it would be trading about $197 at that time. The prices for the possible investments listed below are slightly more costly than the mid-point between the bid and ask prices for the options or the option spreads, and include . . .

June 1, 2015

Why Option Prices are Often Different

This week I would like to discuss why stock option prices are low in some weeks and high in others, and how option spread prices also differ over time. If you ever decide to become an active option investor, you should understand those kinds of important details.

Terry

Why Option Prices are Often Different

The wild card in option prices is implied volatility (IV). When IV is high, option prices are higher than they are when IV is lower. IV is determined by the market’s assessment of how volatile the market will be at certain times. A few generalizations can be made:

Making 36%

Making 36% – A Duffer's Guide to Breaking Par in the Market Every Year in Good Years and Bad

This book may not improve your golf game, but it might change your financial situation so that you will have more time for the greens and fairways (and sometimes the woods).

Learn why Dr. Allen believes that the 10K Strategy is less risky than owning stocks or mutual funds, and why it is especially appropriate for your IRA.

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