I am trying to learn some of the stratagies I've read about. I am not sure If I am practicing correctly. When I write a call\put should I write down the bid? I have never actually placed a trade, I'm embarrest to admit. Any advice about paper trading out there? Is this just a waste of time?
Paper trading can be valuable in the sense that you can get a feel for types of trades, and learning how stocks move. It is useless, however, in factoring in the emotional and pressurized aspects of trading, which can change your whole outlook and landscape of trades. Regarding paper trading with options, if you're selling options, write down the bid. If you're buying them, write down the ask. That's what you're going to be facing most of the time in the real deal. In actual trading, you can place limit orders between the spread, but there is no guarantee at all that you'll be hit, since options are substantially less liquid than stocks.
Thanks ZBOY your comments are valued and apprecated. One other example I have been wondering about... What if you are writing a covered call on stock trading at 50. You write the 55 strike and then a week later the stock moves up to 56. What are the chances of being called out. I mean really. I have heard that 90% of all options expire worthless! Are some options more likely to get called out than others (in the money, out of the money) I trust you guys because you're not trying to sell me a course or a book!
The answer to your question is that it depends. How long until expiration? If the option expires in the money then you will get called out. If it trades into the money and then drops down again before expiration then you won't, unless you are exercised early, which has never happened to me. I've never understood the premise that 80-90% of options expire worthless. I have read a study that says that is not true. I know rtharp mentioned on another thread that 70-80% expire worthless, and since he was in the tbond pit he should know, but it doesn't make sense to me. What does make sense is that options will lose time value over their life, so in that case maybe 70% of long option TRADES lose money, because of the time decay in price. But it would seem to me that logically, over time, an equal number of options will be written on both sides of a stock's price, therefore leading to an equal number (on average) of in the money (not worthless) and out of the money (worthless) options at expiration. If 70% expired worthless, that would imply that 70% of calls written are above the closing price of the stock on expiration and 70% of the puts are written below it. Now, how can that happen when we don't know where the stock will end up? If someone can explain it then I would love to hear it. Good luck to you. Kirk
War Eagle Let's see if this will explain it. The majority of options that trade. --Most options that trade (liquid options) are out of the money. Deep in the money options are very illiquid and hardly ever trade. The huge majority of volume is out of the money options. As a stock moves in a certain direction only the out of the money options will be traded. Once they are at the money or especially deep in the money most traders would prefer not to touch them (sellers don't want to be exercised-while buyers like buying things cheap such as a lottery ticket. I usually suggest for traders who are on the long side to trade at the money options as they move more in parity to the underlying that out of the money options while still having some liquidity. There is a better chance of making money with them. It just seems to be the way it is. Most options expire worthless but the ones that don't expire worthless have such leverage that they make up for the ones that did. So the 30% that didn't expire worthless made the money of all of the 70% that did. It does balance out in the long run. sorry this reads so strange. I've got to edit this when my head is clear so it reads better. rtharp
Here's another issue that factors into the way options, and consequently stocks trade with regard to expiration. Most of the "big boys" who sell a lot of the options the little guys buy don't want to see a lot of those guys make money with their options positions, which is why you hear about weird stock moves and volatility on option expiration day. If you watch a lot of stocks the week heading into expiration, you'll very often see an interesting thing, which is that many stocks end up at expiration right at or near the strike price that has the greatest open interest of options, thereby making those options worthless or nearly worthless. This is not a coincidence. This is the market makers and hedge funds moving the stock there to pocket maximum profit from those options that they sold, and is another reason why a majority of options that are bought expire worthless.
rtharp What to you mean exactly when you refer to certin types of options and use the term "liquid". I have heard this term befor, but don't exactly know what it means. Just want to be on the same page as everyone else! Thanks, LN
I would suggest newbies to start with stocks, and focus on risk/reward ratio and the 'let winner run, cut loser short' thing. Start by watching about 1/2 dozen liquid names, learn them inside out, and start trading small lots.. forget about paper trading, it is useless and misleading. With cheap commission brokers like IB, you can start with 10 shares, and limit your loss to $50/day (big deal). When u are profitable, increase to 20, 50, 100, 200, 500 shares.
LN, Liquid means that there is steady and substantial trading volume. A stock or option that has good liquidity has good volume, and subsequently is easy to get in and out of, since there is always a steady supply of buyers and sellers. Another byproduct of liquidity is tighter spreads.