Easy Stock/Option Combination Strategies for any Investor
Sometimes holding a portfolio of stocks that you buy and sell just isn’t enough. Whether you’re looking for risk management, higher returns, or just something to add a little excitement to your investment activity, options are a great addition to your investment strategy.
By combining your stock portfolio with a few choice option trades, you can greatly reduce the overall risk to your investments or boost returns to a level that would be difficult to achieve with stocks alone. While many investors think of options as being risky profit-enhancing tools, in actuality they often help reduce risk by providing hedges or allowing speculation on a stock without committing a large amount of capital.
Getting started with option trading
Options come in two forms – calls and puts. A call gives investors the right, but not the obligation, to purchase 100 shares of a stock at a given strike price while a put is an obligation to sell 100 shares of a stock at a given strike price should the put be exercised. To simplify, you buy a call if you’re bullish and buy a put if you’re bearish.
Options can also be sold giving investors upfront cash from the sale. However, this action comes with an obligation for calls and puts. Selling a call means you must buy 100 shares of a stock at a given strike price if exercised and selling a put means you must buy 100 shares of a stock at a given strike price.
One of the first option strategies investors usually practice with is the covered call. In this type of strategy, you sell a call with a strike price higher than the current price of a stock that you already own 100 shares of. This gives you upfront cash but limits your total upside potential should the stock rise above the call’s strike price.
Using options can also make short-selling less risky by using a covered put. For this strategy, you short-sell a stock that you’re bearish on and sell a put at a lower strike price. The upfront cash helps hedge against risk but limits your total profit potential if the stock falls below the put strike price. If you want an even better hedge, you could also buy a call while shorting the stock to limit your losses if the stock moves higher unexpectedly, although this means your breakeven point will require the stock to drop below a certain price.
Not every option strategy requires you to actually own the underlying stock. Other combination strategies involve using just options as a way of speculating on a stock without having to buy 100 shares of it. Others are designed to profit from a stock that’s trading sideways – not moving up or down. Once you start to get comfortable with adding options to your stock investments, you’ll be ready for a more advanced kind of trading that gives you access to even more strategies.