| Many people believe that the stock market can make | | | | high the stock rose and no matter how wrong the |
| you rich one day, but also make you bankrupt the | | | | person was, and that the person would draw on the |
| next. Well, how eould you like to know about a | | | | equity in the account to that extent only. Suppose, |
| method of stock trading that completely saves you | | | | on the other hand, the person had sold the stock |
| from unlimited loss, but still leaves the door open for | | | | short in the market. The loss would have been 20 |
| unlimited profit? That method is buying and selling | | | | points and still no knowledge as to the possible |
| stock options. How to trade stock options would | | | | extent of loss until the person covered the short |
| best be explained using the following example. | | | | sale. But in the purchase of the Put option the |
| Lets say a person who thought that a stock selling in | | | | account would read: |
| the market at 50 would decline to possibly 30, that | | | | Bought Put on XYZ at 50 for 90 days: Loss $350 |
| person could buy a Put stock option. Not, however, | | | | Remember, too, that no trade has been made in the |
| that in buying a stock options, one should have some | | | | stock, so no stock-exchange commission has been |
| idea to what extent the stock might move. | | | | paid. A regular stock-exchange commission is charged |
| In inquiring what a Put stock option would cost, the | | | | by your broker only if a transfer of stock is made in |
| person might receive a nominal quote of, say, $350 | | | | connection with the option. |
| for a Put at the market for 90 days. Most options | | | | On the other hand, suppose the person's judgment |
| are negotiated "at the market," which means at "the | | | | was correct and the stock declined to 30. If the |
| current market," when the option can be obtained by | | | | person had instructed the stockbroker to buy 100 |
| the option-dealer. | | | | shares at 30 and exercise the Put option, the |
| Suppose that the stock is selling at 50 and the | | | | account would look like this: |
| quoted price of $350 is satisfactory to you. You | | | | Sold 100 shares at 50 (through exercise of Put) |
| enter your order: "Buy a 90-day Put on 100 XYZ [the | | | | $5,000 |
| name of the stock] for $350." If you are trading | | | | Total Receipts $5,000 |
| through your stock-exchange broker, the broker will | | | | Bought 100 shares in market at 30 3,000 |
| give your order to an option-dealer who will contact | | | | Bought Put at 50 |
| one of their clients who sells options on that stock | | | | Cost 350 |
| and will attempt to buy the option for you. | | | | Total Cost 3,350 |
| When, after this contact or several others, the | | | | Profit on trade $1,650 |
| dealer has obtained the Put option for you, the | | | | The profit then would be almost 500 percent of the |
| dealer reports to the stock-exchange broker who | | | | cost of the Put contract. The profit is the difference |
| gave him the order, and the broker in turn reports to | | | | between the cost of the stock plus the cost of the |
| the customer: "Bought Put 100 XYZ at 50 expires | | | | Put option and the proceeds of the Put that was |
| December 30 for $350." Let us say that the person | | | | exercised. |
| who bought the Put option, expecting a decline in the | | | | In all of these examples showing the use of options, |
| stock, was wrong, and that the stock, instead of | | | | the commission cost has been ignored. But at no time |
| going to 30 (as expected), advanced to 70 and was | | | | could the loss have been more than the cost of the |
| selling when his option expired. The person would | | | | option - $350 - and any stock-exchange commissions |
| have lost the $350 that they paid for the Put option. | | | | would have been paid out of profit or out of possible |
| Bear in mind that the limit of the person's loss was | | | | recovery of part of the premium which was paid. |
| the cost of the Put option, or $350, no matter how | | | | |