Option trading, option investing, option education, and the creation of an option strategy.

Frequently
Asked Questions

Below you will find commonly asked questions about our service.

What is a stock option?

A stock option is a contract that gives the owner the right, but not the obligation, to buy or sell a particular stock at a fixed price (the strike price) for a specific period of time (the expiration date). The contract also obligates the seller or writer to meet the terms of delivery if the contract right is exercised by the owner.

What is a put?

A put is an option contract that gives the owner the right to sell the underlying stock at a specified price (its strike price) for a certain, fixed period of time (until its expiration). For example, an ABC Corp. July 60 put entitles the owner to sell 100 shares of ABC Corp. common stock at $60 per share at any time prior to the option's expiration date in July. For the writer, or seller, of a put option, the contract represents an obligation to buy the underlying stock from the option owner if the option is assigned. In simple terms, puts are bought when you think a stock or index is going to go down or sold when you thing the stock or index is going to go up or remain above the strike price.

What are contracts?

Stocks trade in shares and options trade in contracts.  Each option contract is equivalent to 100 shares of stock.

What is a net credit?

A net credit is the premium or profit that you make on an option trade.

What is the expiration date?

The expiration date is the date in which your option contracts expire and are no longer valid (they cannot be sold and they cannot be exercised).

If you sold a January put option on ABC, Inc., the options would expire at the end of the trading day on the 3rd Friday of January.  

This means that if you still owned the contracts, after the 3rd Friday in January, the contracts would expire and they would no longer be shown in your account.  

You would then either a) keep the total amount of money you sold the option contracts for or b) you would receive the stock at the price at which you sold the puts.  This would only happen if the stock price was less than the strike price.

Expiration can be a very bad thing if you are on the wrong side of the trade.  In this case, expiration hurts you because you may end up losing your investment or owning the stock.

With the strategies used at Sell Put Options, we actually hope our options expire!  The quicker we get to expiration, the better.  

At Sell Put Options, we make the expiration date work for you.

What are strike prices?

The option strike price refers to the price that the option buyer is able to purchase the underlying stock if the option is exercised (in the case of a call option) or it refers to the price that the option buyer is able to sell the underlying stock (in the case of a put option).  

Is it true that options, unlike stocks, expire?

Yes, stock options do expire.  This means that after a certain date (known as the expiration date) the option is worthless so it can no longer be exercised or sold.  

With the selling of put options, option expiration is what makes our strategy work.  You want the options to expire worthless so you can keep the "premium" or "net credit" you made when you initially sold the put.

Do I need real-time stock quotes and option quotes?

Our recommendations do not require constant monitoring, therefore, there is no reason to use real-time quotes.  Delayed quotes work fine.

However, all of the brokers we recommend on this site (along with most brokers) offer free real-time quotes to their customers so you should have no problem accessing them if you would like to.

Even if you use contingent orders, it is not necessary to even watch the market.

Of course, if you plan on exiting and entering your positions intra-day (for the more aggressive trader), you will want to use real-time quotes.

Are there any rules I should know about before attempting to trade one of your recommendations?

Yes!

1) You should NEVER attempt any trade with a smaller net credit than 15¢.

This means if you are entering Sell to Open orders through your broker, never enter an order with a limit price smaller than 15¢.

2) You should always use a contingent order which would Buy to Close your position if the stock price falls below the strike price.

3) Never allow the stock be put to you on expiration day unless you are willing to take ownership of it at that strike price.

How do I know what options to sell?

In our members area, click on the appropriate month, you will then see our current recommendations.

In the recommendation table, you see "Sell Put Option."  This means that you are selling short to open a new position.

This means that you want to Sell to Open the $17.5 put with option symbol QSYMW with a limit order of at least 20¢ at the market open.

Start by simply reading across the table from left to right in order to figure out what option to sell.

If you look under "Sell Put Option," you see that you want to sell the $17.5 put.

What is the minimum and maximum number of contracts I should sell on a given recommendation?

The minimum number we recommend is 5 contracts per option.

The maximum number we recommend is 50 contracts per option.

It is possible to trade more option contracts but we have found it is easiest to get executions on 50 contracts.

Should I use a limit order or should I use a market order?

A limit order (net credit order) guarantees that you will make a specific net credit on your trade but does not guarantee your trade will be executed.  

A market order guarantees the trade will be executed but does not guarantee you will receive a certain net credit.

If you do not have the ability to follow the market during the day, you should never use a market order.  When you enter a market order before the opening bell, you have no idea what type of net credit you will receive.

We recommend that you always use a limit order when you sell put options.

Should I keep some money in reserve in case I need to roll out a position?

We recommend that you always keep some money on the side.  This way, if you have to exit an option, you can initiate a new option that is deeper out of the money on the same stock or index using more contracts in an attempt to breakeven on the trade.

Typically, rolling out the option once in the same month is enough to allow you to make back your loss (or a large portion of it).

When are new recommendations posted?

New recommendations are typically posted five/six weeks before expiration.

After I put on the trade initially, is there any further maintenance of the trade required?

Yes....depending on your investment goals and risk parameters.

It is very possible that sometime after you put on your option trade, the underlying stock or index will move against you meaning the stock or index drops.

Before we start talking about the various ways you can maintain your trade, we need to make it clear that we give you instructions on when you should get out of a trade and exactly what you should do.  The information below is to help you better understand what we mean when we make a suggestion on a certain action to take.

If you understand the information below, you will be able to decide for yourself if you want to follow what we recommend you do or if you want to do something else.

Therefore, here are four main ways you can monitor your trades:

1)  Completely unwind the trade (Buy to Close) if the underlying stock or index price equals the strike price.

2) Don’t Buy to Close your contracts if you anticipate that the stock will rise above your strike price before expiration.

3)  Roll out the trade.

When we say roll out the trade, what we are basically saying is that you unwind the current (Buy to Close) trade you are doing for a loss and then you put on another trade using the same stock or index but at a lower strike price.

Sometimes, due to a lack of strike prices, you will have to go out another month in regards to expiration.

4)  Do absolutely nothing.

Remember, in order for you to lose any part of your investment on an option trade, the underlying stock or index has to close below the strike price on the 3rd Friday of the expiration month.

Therefore, if a stock or index does go past the strike price, it is very possible that the stock or index will reverse and go back in the other direction to put you back in profit territory before the 3rd Friday of the month.

Although we recommend that you Buy to Close your trades at the strike price, the exit strategy you decide upon is ultimately up to you.

Our intent is to supply you with all the knowledge possible so that you can make your own decision.

Is it okay if I exit my trade at a place different than where you recommend?

Yes!

Everyone has their own risk parameters.  Some people might like to take their profits early while others might like to hold their contracts until expiration no matter what.

You should use the exit strategy that works best for you.

It is the 3rd Friday of the month, what should I do?

If you still have an open option trade going on the 3rd Friday of the month, you have a few different options.  

If you have a option trade going and the stock or index is way above the strike price option, do nothing.  The options will expire worthless and you keep your Net Credit.

If the stock or index price is close to your strike price, the situation gets a little more complex.

What you are going to want to do is either:

a) completely close out your option trade as soon as the stock or index passes the strike price.

b) hold the trade until a few minutes before the market closes and then re-evaluate the situation

There is still a chance however that the options will be exercised so you have to be prepared for that if you decide to hold your trade past the close.

Basically, as long as the stock or index closes above your strike price, you do absolutely nothing.

All this information is re-iterated in the members area prior to expiration.

What are naked puts?

When a person sells a put option without being short on the underlying stock, he is said to have sold a naked put.

Most people buy stocks first and then sell them but you can also borrow stock and sell it and then buy it back as it drops for a profit (this is called shorting a stock).

When we say you sold a stock short, we are referring to the fact that you borrowed the stock and sold it in hopes that it would continue down and you could then buy it for a profit to close your position.

The term "underlying stock" refers to the stock you are trading the options on.  So if you bought a $50 put for August on ABC, Inc. for $1, the underlying stock is ABC, Inc.

Let us say you are bullish on ABC.  The stock is currently trading at $50.  You sell some $40 puts for 50¢.  This means that you will be 100% profitable on the trade as long as the stock continues to stay above $40 by expiration.

The position is considered naked because you are selling someone the right to make you buy ABC at $40 even if it is trading at less than $40. 

Therefore, since you are not currently short on ABC, if someone exercises the options, you will not be closing a current position but rather will be opening up a new position.

What brokers allow you to trade naked puts?

Many brokers will allow you to trade naked puts.  Some examples are: Preferred Trade, OptionsXpress, Interactive Brokers, Ameritrade, etc.

However, the exit for our naked puts will always be equal to the strike price of the naked puts sold! 

Therefore, unless you want to watch the stock market all day to see if the stock falls to the strike price of your naked puts, you are going to want to have a broker that will allow you to enter a contingent order.

This will allow you to enter an order which essentially says buy back my naked puts when the stock reaches the naked put strike price. 

Therefore, you do not have to ever worry about watching the market (although you should check your position everyday if possible just to see where it is trading).

The only two brokers that accept contingent orders as of this writing are OptionsXpress and Preferred Trade. 

How much money do I need to trade naked puts?

Aside from the margin requirements, you will need at least $2,000 depending on what broker you go with.  We recommend OptionsXpress because they require only $2,000 and allow for contingent orders.

How do I trade a naked put?

Naked puts require one (1) transaction to initiate the position. 

Assuming you have a broker that supports all 5 option exchanges, your order will be automatically routed to the best exchange.

When a Sell Put Option recommendation is given, all you do is "sell to open" the option recommended.  This is a very basic order.

So if we recommended you sell the ABC October $50 put, you would "sell to open" the put we recommend at a limit price of the amount given under our recommendation.

We recommend that the limit price you use is at least equal to our Net Credit listed in our recommendation.

When should I exit a naked put?

This is extremely important and you absolutely must stick to this.  You cannot hold your position until the end of the day to see what happens or until expiration to see what happens.

Your margin requirements are based on exiting when the stock is equal to the strike price of your naked puts. 

Although, with some brokers, the margin requirement will stay the same even if the stock passes through the put you sold, the last thing you want to do is have your options exercised.

Since the stock could drop down to $0, you don't want to be in a situation where the market crashes or takes a large gap down in which the stock is trading at $20 when you sold naked the $40 put.

What are the margin requirements for naked puts?

The margin requirements will differ from broker to broker.  But, for the most part, typically the margin requirement is 25% of the strike price of the option you are selling + 100% of the option premium brought in.

What is the risk when trading naked puts?

When you sell puts naked, your maximum loss is limited to the number of contracts you sell times the strike price of your naked puts.  So if you sell five $50 puts, your maximum loss is going to be 5 x $50 x 100 = $25,000.

However, this number is purely hypothetical and represents what would happen if the stock was put to you at $50 and then the stock dropped down to $0 leading you with a $50 loss.

This is most likely never going to happen.  Further, because you should ALWAYS exit when the stock hits the strike price of our naked puts, your loss is going to be much less and will be calculated as :

(Price paid to buy the options back - price you originally sold them for) X the number of contracts traded X 100.

So if you sold 5 puts for 50¢ and had to buy them back at $2.00, your loss would be ($2 - 50¢) x (5 x 100) = $750.

Excluding the worst case scenario listed above, the stock could gap through your exit.

The stock is at $52 and you are short your 5 $50 puts.  The next day, the stock might gap down to $48 which means you would have to buyback your naked puts at $48 instead of $50 which will be at least $2 more than what you would have lost if you covered your position at $50.

Gapping is not an everyday occurrence but it can happen if a big news story comes out.

What are the advantages and disadvantages of trading naked options vs. spreads?

With spreads, you have to pay up to four commissions (if you have to enter and exit the spread) whereas with a naked option, you only have to pay up to two commissions. 

You cannot go out of the money as much as you can with a naked option (often $5 to $10 more) because you have to buy another option to hedge your short leg.

You cannot electronically execute spread orders for immediate fills like you can with naked options. 

Depending on which exchange your order is sent to, your spread may not get executed at the price you want because the spread did not get large enough on the particular option exchange your order was sent to even though others may have been able to get the spread you wanted on a different exchange.

With naked options, although your chances of losing are much lower, the amount you can lose is much greater.  With a spread, you can only lose $5 - the premium you brought in. 

The margin required to initiate a position is going to vary with naked options depending on the strike prices traded.  With spreads, the margin requirement is always the same assuming you always trade $5 spreads.

The amount of money required to trade naked options is typically more than the margin required to trade spreads. 

How do you measure volatility?

Volatility literally represents the standard deviation of day-to-day price changes in a security, expressed as an annualized percentage. Two measures of volatility are commonly used in options trading: historical and implied. Historical volatility depicts the degree of price change in an underlying security observed over a specified period of time using standard statistical measures. It is not a forecast of future volatility. Implied volatility is the market's prediction of expected volatility, which is indirectly calculated from current options prices using an option-pricing model.

What is meant by "rolling an option"?

In the options market, "rolling" is a trading event where the options trader simultaneously closes out one option position and establishes a new, similar option position, usually with a different expiration (a.k.a. "rolling out"), strike price (a.k.a. "rolling up") or both. Options traders can: "roll up" or "roll down" in strike price, or "roll out" or "roll in" to different expiration months.

I still have a question not found on this page.  What should I do?

If you still cannot find an answer to your question, try contacting us directly.  You can do so by going here.