Getting involved in the stock market may seem like a good idea to start growing your portfolio, but at the same time it can feel a bit daunting and intimidating. You may not know where to begin and it can feel like you are lost in a gigantic forest with an uncountable number of paths to choose from with no guarantee of getting to where you want to be. Fortunately, thanks to the help of an anonymous former Wall Street insider has come forward to tell you some investment secrets that Wall Street has tried its best to keep that could really help out a new investor with getting into the game and hitting the ground running.
Sell only the put options on stocks that you want to own
For those who are unaware, a put option when it comes to finance is “a stock market device which gives the owner the right, but not the obligation, to sell an asset, at a specified price, by a predetermined date to a given party.” Selling a put offers you two possible outcomes:
- The options will expire completely worthless and the put seller will keep the premium generated from that sale.
- The shares of the underlying stock will fall well below the strike priceon the day that the option expires. This will obligate the put seller to buy 100 shares for each contract sold.
This is more often than not a low-probability outcome, but it is the reason that it is vital to sell options that are only on the stocks that you actually want to have. If the put seller has to for whatever reason purchase shares, you will want to own stock in a successful company with a plethora of potential for long-term growth that will quickly rebound from a potential temporary pullback.
Avoid any long-dated expiration
All options contracts possess an expiration date. Sometimes options will expire every week; whereas others will expire after a several year period.
It is not always the best idea to focus on any of the short-dated options that are out there because this generally will increase the probability of all of the puts you sell expiring being worth absolutely nothing.
As opposed to short-dated options, long-dated options are much more vulnerable to any macro shifts that may happen in the market or economy at large. That being said, options that expire within only a few weeks or months are far less vulnerable to fluctuations in price. Although the shorter-dated option will produce a much lower premium, they can be a much higher-probability trade.
Only sell “out of the money” puts
All option contracts have a high likelihood of expiring completely worthless. Some options contracts have an astonishing 90% probability of expiring worthless; whereas others have only a 50% probability. Everything is dependent on the variables of each individual contract.
An option’s strike price is among the most prevalent factors that impact the likelihood of a worthless expiration. Options that have strike prices that are far away from the underlying stock’s present share price have a noticeably lower probability of assignment than ones with strike prices that are close to what the current prices are. Selling ” out of the money ” puts will increase the likelihood that the puts you are selling will expire completely worthless.
Diversify your stocks
Any and all stock investors should always be finding ways to diversify their portfolios. The same principle applies when it comes to using options. Option traders often want diversified sector allocations, similar to having a regularly diversified portfolio.
It may be best to keep your put options diversified because if for some reason whatever you are investing in tanks, you do not want to have lost all of your money and be in a lot of trouble. The more baskets you have your eggs in, the more likely you are to have high returns on your investments and continue your way up the financial ladder.
Do not increase the size of any positions too much too soon
It is a hopeful prospect for any new investor that their early investments and trade strategies will pay off, but they nor you should get overly confident too quickly. This kind of overconfidence can potentially cloud your judgment and quickly lead you to a place where you are financially in the hole – especially if your overconfidence has you investing everything in only one or two put options.
The value of each trade that you make should be calculated in the form of a percentage of your overall account value. This will make the growth of your account become the main driving force of position size as opposed to a period of short-term confidence. In other words, use your current position as a guide for what kind of investments you should make rather than sticking with one kind or the other.